After the roller coaster ride of the last eighteen months, many Trustees and investors are surveying the damage done to their funds. The latest improvement in share prices around the world has taken the worst off the losses, but has still left all too many funds well below their levels of a year ago. Worse still, active managers who had managed to stay in touch with indices in easier times, have often been blown off course by the enormous volatility of the last year. There were not just absolute losses as prices fell, but for some bad relative losses as well.
I was an active manager of share portfolios once. I remember how difficult it was. I remember the emotional ups and downs. If you had just been through a period when your fund had been losing against the index, there was temptation to park it in neutral, to get it closer to the index you were trying to beat whilst you looked around for your confidence again.
Some of the funds we have been asked to look at recently show signs of that process happening as a natural reaction to the crunch and crash. Some active managers are trying to hug the index more. Some are keen to get in line with the benchmark or the index their clients are using, to cut their business risk of deviating too far from it. If they do, it means the Trustees and investors are effectively left making the big calls that determine future performance.
If a client says to a manager we will measure you against a 70% UK All Share 30% government gilt model fund, the cautious manager is likely to be around 70/30 in his asset allocation. If the client says he will monitor your UK equity portfolio against the FTSE 100 Index, the manager will be tempted to reproduce something like the FTSE 100 unless he is confident or has a performance cushion in the bank.
The more an active manager gets close to the index he is trying to beat, the harder he may find his task. The active manager incurs costs the index does not have to pay. Only by taking a distinctive bet against the index which works can the active manager hope to earn his higher fee and give the client a reward for the extra cost and extra risk.
Meanwhile it is clear from all the independent research that it is asset allocation which makes the dominant impact on a fund’s performance. You cannot pay extra pensions or charitable grants out of “relative performance” in a falling market. Too often the Trustees are left making the crucial decisions about model funds and asset exposure without specialist advice. Meanwhile the search for better outcomes from active management can prove elusive. There are some active managers out there who can beat the chosen index, but you only know after the event who they are. Finding them is not easy. Deciding whether to be in equities or gilts at all is still the most important decision to make, and one you cannot avoid.