How effective can an averaging down strategy be for long-term high-risk investments?
Goodwin: As effective as the investor's belief in the share and the relationship with a market-maker. At what point does the investor stop supporting a sinking ship and decide to sell? It is not something that an IFA like ourselves would get involved in but something I would expect certain active Oeic fund managers would do as you need shed loads of money and a serious belief in the share price recovery.
Both: The concept of adding to a position when it loses money is one which is routinely dismissed by commodities market traders as dangerous in the extreme. The theory is that what goes down will eventually come back up. But since we do not know when that might be, if ever, the strategy will only work for someone with infinite patience and improbably deep pockets.
It did not work for Nick Leeson or Barings, so I would advise my clients not to try it either. Pound-cost averaging is a safer alternative because equal weight is given to both rising and falling markets.
Clark: Buying additional units or shares that you have already bought when the price falls can be very effective if you are fundamentally happy with the stock or fund that you hold. You are attempting to capitalise on the loss that you have made on historic purchases by buying cheaper in the hope that they will recover. The eff-ect of pound-cost averaging I am sure we are all familiar with is the cornerstone of most unit-linked regular-premium savings plans. The problem as ever is timing. Great for regular premiums where you may continually average down but risky for single-premium additions.
How valuable is peer group benchmarking as opposed to absolute returns when judging the performance of funds?
Goodwin: Very valuable, I would say. It can be too easy to make money in a rising market and focus on the overall result but the degrees of outperformance of certain fund managers will show up in a rising or falling market. A sensible investor would not rush to buy a European fund without comparing the individual funds available.
Both: That the past is not necessarily a guide to the future is certainly true when one is comparing the price movements of a given market segment in adjacent time periods. However, competent technical analysts regularly make money because they recognise when and how history is repeating itself.
Two managers operating in the same market at the same time will exploit it as they see fit within the strictures of their mandates. Their relative performance can be a fair comparison of their skill levels and can be the best guide to their relative success in the near future, even though we cannot predict the underlying market's direction.
Clark: Absolute performance is ultimately what we all live and die by. However, comparing a fund manager within their peer group is a must. You have to gain some perspective on how others are coping in the same sector and with similar asset allocation. Was it one lucky stock punt that pushed a fund to the stars?
I continually assess managers using benchmarks. In addition, you also have to look at the size of the fund that the manager is steering through its sector. Is it a “supertanker” fund that is so huge it is difficult to jump on the back of opportunities or a younger, smaller fund that is more flexible and can react quickly? Benchmarking within benchmarks.
Scottish Life is reducing the equity component of its managed fund range and introducing asset allocation which it says can match a policyholders' changing risk appetite over the life of the fund. How much of a step forward is the use of time horizons within a managed fund? Does this take too much control away from the IFA?
Goodwin: May I cynically suggest that this is another unnecessary marketing idea. In an ideal world, the IFA would have regular contact with his or her client and can therefore make use of the switching facilities rather than just leave it to an automated process that does not take into account the changing objectives of clients. It isn't the IFA that needs control, it is the investor.
Both: Lifestyling is especially beneficial if the IFA cannot be sure of giving ongoing advice, for example, to a group member. Scottish Life's unique selling point is that rather than simply changing between asset classes as a client approaches retirement, IFAs can select with their clients a series of managed funds which change the focus of their strategy from 15-plus years to less than five years. The nine individual funds all have a mix of assets, including property, gilts and equities, where the duration of the securities is appropriate to the three timeframes, adding to IFAs' choice.
Clark: Does this take too much control away from the IFA? This is not exactly a huge step forward. For years, many pension funds have offered lifestyle funds with automatic switching at time horizons.
Whether Scottish Life's move will take control away from the IFA depends on whether the IFA has an ongoing servicing contract with their client. I suggest that many do not and this justifies Scottish Life's move. If Scottish Life does not offer an actively managed alternative, they will lose out on those recommendations where regular servicing is agreed. This may push Scottish Life away from the higher-net-worth end, which it has always done well in, towards the lower premium market.
Sway chief executive and former Legal & General director John Maguire has called for a shake up in the way that investment trusts are marketed and distributed. Do you agree that the technical nature of investment trusts is a hindrance to IFAs?
Goodwin: It should not be a hindrance to an IFA who knows his or her stuff. There is a danger for the less experienced IFA that a trust could be marketed to a client as a winner whereas in reality the net asset value is made up not only of assets but also of debt.
The AITC has put forward proposals to display the NAV clearly by calculating the current market value of debt rather than debt calculated at par or repayment value. As always, it is the IFA's responsibility to assess the client's objectives and attitude to risk and whether such a product is more suitable than another in helping that client reach their financial goals.
Both: It is inevitable that the net asset value of investment trusts will often differ from their share price, which is a concept most clients struggle to understand. The ones claiming to comprehend the intricacies of the structure of splitcapital investment trusts with multiple share classes or to recognise levels of gearing which may lead to enforced liquidation are even rarer, so it is realistic to expect the appeal of investment trusts to be far narrower than for open-ended funds.
It could be very dangerous to try to broaden the market without ensuring that investors are properly educated as to the commensurate risks.
Clark: I agree that investment trusts are very difficult to research. Underlying net asset value is immaterial and demand is king. This means that much more in-depth research and analysis is required before an IFA can be happy to recommend one. Shares can trade at a premium or discount and the only time you can be sure to obtain the actual value of the underlying investment is at wind-up. Therefore, better marketing and management information needs to be more widely available and easier to compare than at present.
How buoyant is the venture capital trust market since the Government's tax and investment changes? Do you think there is now more demand for these products?
Goodwin: Judging by the number of new issues this year and those investment groups planning to launch new issues, the industry expects there to be more demand although I have not seen evidence of increased demand.
I would suggest that any IFA worth his salt would set out the purpose of a venture capital trust and its suitability for that client. It worries me that many may be sold as a smaller companies Oeic-type investment with tax relief, whereas the client needs to know that it is not a readily realisable investment and should be entered into for the very long term.
Both: Forty per cent income tax relief upfront is a very persuasive argument for higher-rate taxpayers to consider venture capital trusts as a way of saving for retirement. One must not underestimate the significant risks of investing in very small companies whose shares are rarely very liquid, even when there is not news to move the market significantly.
Clark: Venture capital trust prospectuses land on my desk virtually every day after the doubling of tax relief in the Budget. They look great, they feel great, they sound great, they even smell great and that tax break is unbelievable. However, they are perceived as ultra high risk as they deal with venture capital. If you explain risk properly to a client, most are lower and medium risk and certainly not high risk. If we explain that you get a 40 per cent return overnight, then many more would consider them.
Yvonne Goodwin, director,Pearson Jones
Michael Both, proprietor, Michael Philips
Ashley Clark, director, Need An Adviser.com