Will passive funds come to the fore?

Passive funds have never represented a large portion of the AFI indices, but could this change following the recent launch of several funds from the American mutual fund giant Vanguard?

A skim of the funds selected across the three indices does not make for good reading for passive funds. Of the 147 funds selected in the AFI Aggressive, Balanced and Cautious in­dices, just nine are passive, all of which have been recommended by only one AFI panellist. These include seven funds from Dimensional and two index trackers from L&G (see table).

But this could be set to change in the near future, following the recent launch of several passive funds from Vanguard, an American mutual fund giant.

Vanguard, which announced its entry into the British retail market at the start of the year, has launched 11 British- and Irish-domiciled funds, boasting total expense ratios (TERs) from as low as 0.15% a year to 0.55% a year.

One AFI panellist is positive about the move. Ian Shipway, the managing director of Bluefin Wealth ­Management, says he is not disappointed by the long wait to see the funds and charges Vanguard was going to provide British investors.

“It looks an interesting range and seems to cover most bases,” he says. “We can see them being part of our portfolios, but only where we want broad market exposure and not as a replacement of the Dimensional funds we use at the moment.”

Shipway says the Dim­ensional funds target specific areas of the market, unlike the Vanguard funds that mostly track commercial indices. Using aca­demic work from the university of Chicago, Dimensional skews its funds towards certain criteria. Equity funds are based around three long-term ass­umptions: shares will return more than fixed interest; smaller company shares will outperform large company shares; and value shares will outperform higher-priced growth shares.

While aware of Vanguard’s reputation as a passive manager in America, Darius McDermott, managing director of Chelsea Financial Services, says its launch in the British retail market has been low key.

“Just look at the £100,000 minimum investment,” he says.

“It seems more aimed at high net worth and institutional investors than the retail world. We appreciate they are looking to get added to the fund platforms, but I’ve been underwhelmed by their launch.”

It was reported in Fund Strategy (June 22) that Vanguard was in negotiations to add its funds to more than 15 fund platforms. Peter Robertson, the head of retail services, explained that the £100,000 minimum investment was only for direct investment and that he expected the majority of money to come from said platforms.

“If they are successful and push the cost versus active managed funds argument, they might do well,” says McDermott. “However, my preference remains active managed funds.”

In bear markets, McDermott says talk regarding tracker funds is always pushed to the forefront as costs become more important to investors: “The past 10 years have been described as the lost decade for equities. This is because of the two horrendous bear markets it has witnessed. But a couple of months ago I ran some numbers to see how the performance of active and passive funds stacked up over 10 years. These numbers found that the passive funds beat 70% to 80% of active funds. However, it means 20% of act­ive managers managed to beat passive funds substantially. The best – Fidel­ity Special Situations (run mostly by Anthony Bolton) was up more than 150% over the 10 years. Even so, other good managers, such as Tom Dobell (M&G Reco­very) and Nigel Thomas, were up more than 50%.”

McDermott says this means that in a decade where equities “did nothing”, trackers also have provided investors next to nothing in terms of their return. Meanwhile, the best active managers were still providing strong returns.

“My job, both at Chelsea and as an AFI panellist, is to identify those 20% of mana­gers,” he adds. “I have had the M&G Recovery fund on my ‘buy list’ for six years. I am not anti passive and tracker funds. I have promoted the L&G UK Index Trust and it has been on our wider buy list forever, and it is always second quartile. It is what we ex­pect from a tracker. But if we can find one 20% of outperforming active managers, then why pay 0.5% for nothing?”


To comment on this article email Adam Lewis at: adam.lewis@centaur.co.uk