Murphy’s law is alive and well in the fund management industry. Active managers had been soundly bashed by popular opinion for several years but, as we entered 2014, there had been a slew of headlines and opinion pieces declaring them to be on the cusp of a new golden era.
With this glowing endorsement ringing in their ears, active managers’ immediate response was to fall flat on their collective faces.
In fact, if you take the IMA UK All Companies sector as a (very) rough proxy for active management, the past quarter was the worst relative to the FTSE All-Share in almost 25 years. Having trailed the market by 2.9 per cent, you have to go back to 1991 to find a quarter in which it fared worse.
More than bad luck?
So was this Murphy’s law or was there more to it than bad luck? We believe the warning signs were there for those who were looking. Headlines declaring a new golden era should be treated with suspicion – they are often based on what has just happened, not on what will.
With suspicions aroused, a look at the data would have shown the sector average had beaten the market for an unprecedented seven quarters in a row (its previous best run was three). We are die-hard fans of active managers but only the good ones: we are not interested in backing average funds. Sadly the average fund in the UK All Companies sector is, as the passivists rightly highlight, decidedly below par.
So when the average fund beats the market by so much for so long, it is not driven by manager skill; there must be another factor.
That factor was a prolonged rally for small and mid caps, to which the sector had a high and rising exposure, pushing them to a valuation premium over large caps. So when those parts of the market nosedived in Q2 but blue chips kept rallying, they dragged the average fund with them.
Having cut our exposure to this factor late last year, we are still wary of rebuilding that position: valuations are not compelling and we sense there is still a danger of more hot money flooding out.
But we do remain invested with the best active managers, many of whom fared well in this rotation and they look well positioned for whatever the future may throw at them.
Simon Evan-Cook is senior investment manager of Premier Multi-Asset Funds