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Does the big cap fit the year ahead?

Some commentators believe this will be the year of the large-cap fund.

The argument goes that small and mid-caps have enjoyed a terrific run so large caps – which traditionally show little correlation with the rest of the market – should have a storming year.

But few are recommending investors to plough into FTSE 100 trackers despite the 30 per cent rise in the index since last March.

Recent research has done little to paint trackers in a favourable light. For example, Isis says 84 per cent of trackers are languishing in the third or fourth quartile over the past five years.

Where can investors get large-cap exposure? Few funds invest specifically in these companies and most IFAs could perhaps name only three or four which are considered to be genuine stockpicking portfolios. Tight constraints mean the rest are essentially closet trackers.

Many investors&#39 exposure is limited to the large-cap weighting in multi-cap funds and many of these have a bias towards small and mid caps. Although this lack of choice has proved a frustration to IFAs, it is a situation that is unlikely to change, given the challenges that fund managers face from the FTSE 100.

Liontrust marketing director Jonathan Harbottle says: “A lot of groups are scared of underperforming the index because it is too much of a risk, whether you are active or passive, not to hold the main nine stocks. Large-cap funds tend to be index-huggers, with the manager trying to add value by playing around in the bottom end of the FTSE 100 or Mid 250.”

As the four main sectors – banks, oil, pharmaceuticals and telecoms – account for around 60 per cent of the FTSE 100, the desire to add value around the margins makes sense. But, like other funds, Liontrust&#39s portfolio is subject to constraints which force it to hold stocks that manager William Pattisson does not necessarily want. Underweighting the biggest stocks – HSBC, BP or Shell, for example – by 50 per cent is the biggest risk he can take. The fund is benchmarked not against the FTSE 100 – its main investment universe – but against the FTSE All Share, which is easier to outperform.

Despite these problems, there is demand for such funds. Liontrust&#39s fund doubled in size last year from £40m to £80m and Harbottle expects the growth to continue.

But groups are still resisting the temptation and IFAs believe there are other reasons behind the reticence to launch new funds.

A&B director Tony Lanning says: “Large-cap funds are boring, that is the problem. But there are opportunities in some funds, especially those from Old Mutual and Investec, to see good returns. I am just surprised someone has not yet come out with a best ideas portfolio, given how popular focus funds have been over the past two years.”

Lanning believes the market is long overdue a rotation from small and mid-caps to large caps but he does not expect many more funds to appear. There are signs of life, however. Schroders, one of the most active groups in terms of fund launches, last week rolled out a UK large-cap fund which typically holds around 35 stocks, a small enough number to justifiy claims that it is a best ideas portfolio.

Unlike most of its peers, the fund&#39s main selling point is the flexibility it affords its manager, Jeremy Smith, who will be under no pressure to hold any particular sector or stock. To ensure the portfolio is representative of the index, 40 per cent must be invested in the four main sectors but Smith can juggle this as he wants. Schroders says this approach allows him to take maximum advantage of the opportunities it believes the index offers.

Head of UK retail Robin Stoakley says: “We think there are considerable price inefficiencies. Just look at Vodafone or Marconi. There is just as much opportunity to outperform the FTSE 100 as any other index. The fund is designed to be representative while giving the manager scope to outperform.”

Stoakley expects the fund to attract over £200m in the next two years, mainly from discretionary and fund of fund managers. Nevertheless, few groups seem convinced of the merits of launching such a fund, with some portfolio managers fairly cautious about the outlook for large caps over the next 12 months.

Old Mutual UK select large-cap fund manager Gordon Campbell says: “Having bounced to around 4,500, I do not see the FTSE 100 racing ahead from here. It will be reasonable as there is ground to be made up but it will not be anything exceptional.”

Despite strong performance, the fund has attracted only £20m since launch in April 2002.

This is perhaps a consequence of IFAs&#39 reluctance to invest in funds without a three-year track record but could equally be a result of the widely held view that large caps are over-researched and present few opportunities for managers to add value.

Either way, the dearth of large-cap funds seems set to continue until IFAs begin clamouring for more launches and groups are left with little choice but to get in on the act.


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