Active Bashing

I will agree with Hysni Kaso that if the majority of the stats in the recent press articles that are bashing active managers do come from ETF providers it does raise questions over the integrity of the data. However, this in no way undermines the hard statistics concerning the real costs of retail active management. Take a Typical UK based Balanced Managed fund with an AMC of 1.5%, add to this a typical extra 20 bps for marketing, legal costs etc and you have a quoted TER of 1.7%. If the Portfolio Turnover Rate on this fund is then 100% (which is fairly typical for an actively managed fund) you can add an additional 1% in trading costs plus 0.5% stamp duty (Fitzrovia) bringing the total annual costs for managing that fund to around 3.2%. If your risk free rate is say 3.5% and your expected return from a balanced managed portfolio based on historical asset class returns before charges is 7%, you have just given up almost all your equity premium in charges. Thus the client is getting only an expected return of 0.3% over the risk free rate for taking a bucket load of risk, and this assumes that the active manager gets his bets right and the fund actually produces asset class returns. If it doesn't then the client is paying very handsomely for a manager to help him lose money. All of this means that if the real cost of active management on a UK retail balanced managed fund (including Portfolio Turnover Costs) is 3.2% then the manager has to produce 10.2% pa just to get expected market return for the client based on the equity premium he deserves net of fees. Personally there is no way that I'm prepared to bet on any Active manager producing those kind of returns repeatedly, irrespective of how many times you play golf with him. Of course some managers will always beat the market average, that is no more than a statistical certainty, the problem we have is that they are never the same group of managers any two years running. As such an "Active" IFA is actually trying to make a series of bets on which managers will beat the market this year and which won't. No ratings from S&P, Moody's or Morning Star are any good at identifying winners and losers all they tell us is what they did yesterday not what they are going to do tomorrow. Managing client money is about investment and not speculation, that's why a passive approach will provide a greater degree of certainty for the client over the longer term. If they want an active approach then send them down to Ladbrokes, at least the Booky is up front about what he charges and what he might lose!

Posted by: Nick Crabbe