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Reactivated debate

The debate between active and passive management has a long history but recent turmoil in financial markets has tested the merits of both strategies to their limits.

Active proponents point to the value of using an experienced fund manager to seek out the best deals but this comes with added costs and risks for the investor.

Others claim that active management is a deceptive strategy which masks higher costs and lower returns. They suggest that the longer-term outlook of many exchange traded funds and other passive investments better enables investors to capitalise on macro-trends such as those currently gripping the domestic and international markets.

This week, a group of eight IFAs reignited this discussion with the launch of a non-profit working party formed to educate investors and professionals about the benefits of passive strategies.

Evidence Based Investment Solutions is challenging active investment strategies and suggests that investors are better off placing their money in low-cost funds such as index trackers and non-commission-paying institutional funds.

Ebis says there is evidence that supports its approach and that clients are beginning to see that fees and turnover rates in active funds are too high and investment returns are too low. It notes that the funds under management of its member firms have doubled since 2005 as a result of adopting passive strategies.

Chairman Craig Burgess of Blackstone Wealth Management says: “Ebis has formed to debunk the notion that investment managers can reliably add value to justify high charges. When markets are good and portfolios show double-digit returns, then IFAs, banks and stockbrokers often bask in the glory although the fund managers have not added any value at all.

“Unfortunately for them, recent times have been difficult and their ability to outperform has come under question again. It makes it hard for them to justify their high fees which typically cost a client an extra 1 to 3 per cent a year.”

Burgess says a key challenge for the passive investment industry is availability as a number of funds are not readily accessible to the investing public.

But Premier Wealth Management managing director Adrian Shandley says there is no one-size-fits-all approach to investment. He says: “I do agree that a lot of retail tracker funds are hard to find but if we were in a world where passive funds were the best, there would only be a few tracker funds in existence and there are not.”

Chelsea Financial Services managing director Darius McDermott says providers such as Legal & General offer a good range of tracker products and ETFs are readily available via traditional stockbroking methods and online stockbrokers.

He says: “Any member of the public can buy index-tracking funds to track pretty much any global market or you can do it via ETFs and these are perfectly accessible.”

The bull market of the late 1990s helped propel passive asset allocation to the fore but does the approach still measure up in today’s bear market where global indices are constantly changing? Not according to McDermott who acknowledges the consistent performance of passive-based strategies but says they are no substitute for good active fund management.

McDermott says: “Passive investments are cheaper to run and historically they will beat well in excess of half of the active managers. They will always tend to be over a longer cycle and generally second quartile which is perfectly respectable. I am not against passive investments but prefer good actively managed investments. I still believe good active managers can outperform a falling market the same as a rising market.”

He says current market volatility thrown up by sector rotation makes it hard even for the most skilled fund manager to perform in every investment period but adds: “As this all washes out, you hope that they are positioned well and have picked the best stocks to outperform. The tracker and passive funds do not have those issues, they just track the market or the underlying sector in an ETF. Simple index-tracking funds will track the market and will do it cheaper and that is fine but in my experience, good actively managed funds will beat index trackers and passive funds.”

Hargreaves Lansdown investment manager Ben Yearsley says the intelligence and decision-making ability of an active manager has never been more important for investors to achieve better returns over the long term.

He says: “Now is exactly the time that you want active management. You want the manager to have the ability to make a decision and not just be tied into things. If the index is going nowhere, which it has not done for a while, you want to be in something that can actually buy into shares and companies that go up in price. Obviously, there is a risk and a cost involved with that but I would rather back a decent manager over a passive strategy that is buying an index anomaly.”

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