Active fund market could shrink if returns don’t improve, says Baillie Gifford

James Budden 200
James Budden

Baillie Gifford’s James Budden says 70 per cent of the active fund market failing to create alpha could be in trouble post-RDR, prompting outflows and consolidation.

Budden says the trend of herding has become commonplace over the past 10 to 15 years, and has led to a situation whereby some fund managers only have 10 per cent active share. With cheaper, unbundled share classes meaning investors will look more closely at active funds, they will be looking for outperformance of tracker funds.

“Active funds will have to be really active and create returns for unitholders,” Budden says. “Those which are just beating the index will be very unpopular.

“Active managers now take less risk than they used to. The reason is people don’t get sacked if they achieve index plus one performance. Fund managers are aware that if they just about perform they can hold onto their assets, their jobs and their bonuses.”

Budden, director for retail marketing and distribution at Baillie Gifford, says as the firm is independent, it is not precoccupied with share price concerns, which allows the managers the time and space to focus on making active decisions.

“We have 80 per cent active share, whereas other managers have 10 per cent active share as they are too terrified to do anything else. It doesn’t work, it creates a herding situation where 70 per cent of active managers don’t outperform. Post-RDR they will all be found out, or they should be. We will see outflows and managers will realise themselves and there will be consolidation.”

“IFAs will realise and ask ‘why pay 75 basis points for a fund which will just beat the index when you can make 60 basis points by investing in a tracker fund, by paying less fees’.”

However, Budden is not promoting tracker funds, which he says “are guaranteed to underperform the index due to the cost of trading”.

“Passive investments are becoming even cheaper, but we have our suspicions about [them]. They are replicating companies which have done well in the past, not those which will do well in the future.”