Significant drop in red flags for 2016

The list – using data from FE Analytics and based on the metric explained in the boxout – reveals an increase in the number of funds that have been in the red flag fund list for four consecutive years to six, up from four in 2015. Two funds – the Clerical Medical FTSE 100 Tracker fund and the FP New Horizon Growth fund – are in the list for the fifth consecutive year.

Iain McGowan, head of fund development and analysis at Scottish Widows, says of the Clerical Medical FTSE 100 Tracker fund: “Its underperformance is primarily a consequence of comparison with a peer group that invests in a wider range of companies. Large companies in the FTSE 100 have generally underperformed mid- and small-cap companies.”

Ben Seager-Scott, director, investment strategy at Tilney Bestinvest, calls it the “worst offender” on the list. He explains: “It’s not even a case of having bad management, it’s a grossly over-charging FTSE 100 tracker fund. Frankly, if you’re paying a TER [total expense ratio] of more than 0.1 per cent you’re being ripped off, and this is 10 times that at 1 per cent.”

But he cautions investors should not jump to conclusions when looking at funds in the red flag list. He explains: “The majority of funds start off small and grow over time, so we shouldn’t be quick to judge those that are still looking for market traction, which can often take a number of years – especially if a group goes for the ‘soft-launch’ option to carry a fund while they build a track record.”

This year, the investment house with the largest number of red flag funds is Legg Mason, including three Martin Currie funds. Legg Mason responded only to confirm the funds remain open.

The number of funds run by Neptune Investment Management in the list this year is down to one, from three last year. A spokesperson confirmed its Cautious Managed fund, which had been a red flag fund for three years in a row, closed last year after attracting “lower-than-expected” investor demand. But Neptune notes the improved performance of its Emerging Markets fund, which saw it drop out of the list this year.

The Neptune Global Special Situations fund managed by Robin Geffen remains a red flag fund for the fourth year running.

Mr Seager-Scott asserts: “Although the high-conviction, focused style has many fans and the fund has been aggressive with its geographical allocation, the calls simply haven’t paid off and it has underperformed in four of the last five years – surely a clear candidate for the chop.”

Also in the red flag list for the fourth consecutive year is the ConBrio UK Smaller Companies fund. Manager Alistair Currie says performance has improved over the past year but the five-year figures are still being adversely impacted by its significant weighting to AIM-listed companies and very little exposure to mid-caps, unlike some of its peers in the IA UK Smaller Companies sector. The manager also points to the recent decision to invest in employee-owned businesses, which he believes has contributed positively to performance.

Adrian Lowcock, head of investing at Axa Wealth, remarks: “Fund groups need to strongly consider the impact of having smaller funds in their suite of funds as a name appearing on a list such as this could damage the brand.”

The VT Smart Dividend UK fund appears again on the red flag fund list, although ownership of the fund moved last year from Maven Capital Partners to Valu-Trac Investment Management. Robert Davies, adviser on the fund, acknowledges its fourth-quartile performance but points out under new ownership it will be renamed the Munro Smart Beta fund, subject to FCA approval, to better reflect its strategy.

Several funds have appeared in the red flag list for the first time this year, including the Baring Emerging Markets fund, the only fund from the IA Global Emerging Markets sector. A spokesperson for Baring Asset Management insists the fund is seeing increased interest from investors, while Jean-Louis Scandella, who joined the firm in May 2014 as co-manager of its emerging markets portfolios, “implemented a number of enhancements to our research process and portfolio construction”. Barings also points to the fund’s first quartile performance over one and three years as “more representative of the current investment process”.

Andrew Harwood, manager of the CCM CFS Balanced Opportunities fund, a new red flag entrant, suggests underperformance has come from several underpriced investments. He adds: “I am optimistic that as some of [these] become more realistically priced, performance will once again impress.”

Ellie Duncan is deputy features editor at Investment Adviser