I’m a fan of Tottenham Hotspur, I grew up in a town called Ware in Hertfordshire, which was about 20 miles north of the Spurs’ ground, White Hart Lane. Over the last few years, anyone who is a football fan will have heard the expression “Spursy”. According to Urban Dictionary, the definition of Spursy is “To consistently and inevitably fail to live up to expectations”. When I hear that, apart from feeling the sting that Spurs haven’t won a trophy in several decades, I think about active fund management and snake oil salespeople peddling it.
I wonder, has any other industry promised so much, for so long, yet delivered so little? Over the next few hundred words or so I’m going to help you be less Spursy with your investments and pensions, and more Man City.
The information I’m giving you here about active fund management is fact, it is based on evidence, not unsubstantiated information, fake news or your mate down the pub.
Old Fashioned, and not the cocktail.
For decades the only way to invest was by using active fund management, with only one team playing it was impossible to judge the Spursy credentials of any of them. Then a couple of decades ago, along came Jack Bogle, the father of modern investing. Jack revolutionised investing by creating index investing and founded Vanguard. Instead of paying high fees for active managers, Jack offered a way to capture market returns at a 10th of the cost and in a topsy-turvy world where the only thing about investing we can control are the costs, costs are king!
Suddenly there was two teams in the game and making a fair comparison became much easier.
So why should you avoid costly Spursy actively managed funds the industry in intent on selling us?
Humans V Computers
Firstly, let’s look at what can go wrong when you have a human at the helm, not a computer. I feel using the Spursy analogy about Neil Woodford is too flippant for the seriousness of what took place. Neil Woodford was a “star” of active fund management, who fell to earth. Over 300,000 investors were affected, and the losses ran into billions of pounds. Hargreaves Lansdown was promoting this fund even when it began to fail.
Why did it happen? because of hyperbole, not evidence! There is a recent study about how susceptible to financial BullS**t people are, the answer is a lot. What do we mean by BS? We mean meaningless phrases, like “we invest in profound change, disruptive technologies and big ideas”. Sounds impressive, doesn’t it? Would you buy into it? The inflows to the fund with no track record were astonishing. When his plays didn’t payoff he began to double down into smaller and smaller businesses, until the fund failed.
50% are losers
Active fund management is a zero-sum game, it’s simple maths if someone wins, someone loses. If you’re trying to beat the average, or the middle return if you were, 50% of active funds have to underperform. And even if you’re in the top half, the evidence has shown it is virtually impossible to attribute success to skill or blind luck, even a broken clock is right twice a day. Fact, around 90% of investment returns come from just 4% of companies, not the same companies mind you. You can be impatient and believe you can identify the 4% of companies, or patient and own 100% and guarantee the returns of that 4%.
Cost is King
The average cost of active investments is 0.90% compared with passive at 0.15% and transaction costs for active management are usually higher increasing the gap even further. When you look at these figures it’s little wonder 85% of active fund managers have underperformed the S&P 500. Therefore, an average active fund manager is going to underperform his passive counterpart by the difference in cost, again this is simply maths. In a cautious active portfolio with 60% bond and 40% equites as much as 50% of your returns can be eaten up in costs. I promise you this, the active fund manager will be able to retire a lot earlier than you!
It’s easier to lose a fortune than make one.
When it comes to investing it’s not what you do right which determines your returns, it’s what you do wrong. I regularly give talks and my elevator pitch is “I stop people from making stupid mistakes with money”. Given patience, time and acceptance of some risk, you are likely to make a fair return. Only fear, greed, or impatience will derail that, and we have all experienced that at one point or another. That being the case, what better way to invest than in index-tracking funds?
The Challenge
At least once a week I hear from someone what a “nice guy or gal” their financial adviser is. Last week someone told me their financial adviser offered to collect them from the supermarket and take their shopping home. I know I’ll sound cynical, but seriously! Yes, we all want the people we work with to be nice, but don’t let that cloud your judgement.
If your current financial adviser uses active funds ask them evidence their performance. The easier way is to do a direct comparison between their portfolio and a basically off the shelf multi asset fund like the LifeStrategy range from Vanguard. I did it for a new client just last week, the results were astonishing. Do not let the active fund management pull the wool over your eyes. It could make the difference between retiring in 10 years or 15. If they won’t do it, we’ll do it for free. Book an initial consultation for free here.
The value of your investment (and any income from them) can go down as well as up and you may not get back the full amount you invested. Levels, bases of and reliefs from taxation may be subject to change and their value depends on the individual circumstances of the investor.