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The big time

With M&G’s recovery fund passing the £5bn mark in assets, the issue of capacity in funds once again comes to the fore. But multi-billion retail funds are no longer the rarity they once were and the biggest funds appear to be that way for a reason, with their performance drawing in the assets, not hampering their management. While the boutique advantage of being small and nimble has often been lauded by the investment community, those with big and bulky funds are proving they can add value and more than keep up with their smaller counterparts.

There are now 121 funds across the IMA sectors with more than £1bn in assets, 12 of which have more than £4bn, according to statistics from Financial Express. These range from portfolios invested in India, China, the US, the UK and global equities through to fixed interest and specialist bond portfolios.

M&G has three multi-billion portfolios – corporate bond, global basics and recovery – run by Tom Dobell and Invesco Perpetual’s Neil Woodford runs some of the biggest funds in the industry, with his two flagship equity income portfolios featuring combined assets of more than £17bn.

Yet despite the rapid growth in assets in those funds exceeding £4bn in size, performance does not appear to be adversely affected. Of this dozen, all those with 10 and five-year track records are first-quartile performers in their respective sector groupings.

Woodford massively underper-formed his peer group last year and his relative underperformance once again brought up the issue of capacity.

Invesco Perpetual UK product director Will Deer says the underperformance was due to Woodford shunning the outperforming oil and bank sectors in favour of unloved pharma and tobacco rather than any impediment caused by the size of his funds. He says that, with Woodford’s personal wealth invested in his own funds and his pay geared towards their performance, he has a vested interest in ensuring that their size does not affect returns.

Despite the rapid growth in assets in those funds exceeding £4bn in size, performance does not seem to be adversely affected. All those with 10 and five-year track records are first-quartile performers in their respective sector groupings

Although on a total return basis Woodford did not fare as well as his peer group last year, unlike many equity income portfolios, he increased his yield and dividend in 2009. Better known as a total return manager than a pure income player, typically, the contributing percentage to returns from income is 25 per cent. Last year, 42 per cent of Woodford’s total return came from income rather than capital growth, highlighting the defensive nature of his portfolios.

Not too long ago, there were very few multi-billion retail funds in the UK market and of those that were around, they were criticised as potentially being unwieldy. As a result, many groups started imposing soft caps to restrict capacity. Most famously, Anthony Bolton’s former fund, Fidelity special situations, was split into two in 2006 after it reached £6bn in assets. Its size was seen as having the potential to hinder Bolton’s quite active style.

The move by Fidelity to divide the massive fund into two was not met warmly and such was the level of criticism, it is unlikely that another product provider would attempt a similar experiment. But what will this mean for succession planning on the funds approaching, or having already exceeded £6bn in size? Woodford may only be 50 and planning to run his portfolios for some time yet but what size will his funds be when he does retire? And just who would have a comparable level of experience running such a big amount of assets?

Deer says it comes down to the style of the manager as to how capacity is addressed and any succession planning at Invesco Perpetual would take that into account. Like Inv Perp, M&G argues that Dobell’s style allows for greater flexibility in managing a big fund. Both managers tend to have low turnover levels and long time horizons for holdings. For instance, Deer says Woodford has held BAT in his funds for more than 15 years.

Dobell and Woodford do not tend to change the stance on their portfolios that rapidly but that is their style, not a consequence of fund size. Deer says Woodford has always preferred to take positions in companies gradually.

M&G says it is not experiencing any difficulty in implementing the recovery’s strategy at current scale and asset growth rates, with Dobell’s contrarian investment approach helping with liquidity when buying and selling stocks.

Deer says the large size of Woodford’s funds can work to some advantage as he often has greater access to company management and can be influential as an active shareholder.

Other criticisms levied at bigger funds refer to the restriction that managers face in their small cap exposures and to compensate, managers must have a bigger tail in the fund. Again, M&G and Invesco Perpetual do not feel it is much of an issue just yet. Woodford currently has 86 per cent invested in FTSE 100 stocks but he is also slightly overweight in FTSE 250 holdings, at 12 per cent. One of his smallest holdings is £14m in a company with a market cap of £100m. For Dobell, the weighting in stocks of below £500m market cap is about 10 per cent.

M&G concedes small that cap holdings will pose challenges as the fund grows but says it is business as usual managing money and it feels capable of dealing with the problem.

As to the number of stocks in their funds, Dobell operates a “nightclub” policy of one in and one out while Deer says Woodford’s funds have recently become more concentrated, not less. At the moment, he has about 95 stocks, with 75 per cent of the portfolio in the top 20 positions.

With the number of billion-poundplus retail funds increasing, chall-enging fund managers to deal with the intricacies of managing increasingly big portfolios, advisers can not take a blanket approach in their assessment. It is not a case of small and nimble is good, style is far more important a consideration.

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