The changing nature of the asset management industry is a wonder to behold.
When I first started out, the main recommendation for investment was a managed bond. Partly because so many adviser firms were being set up by those who had worked in the insurance industry selling life bonds and also because they would pay 5%-plus commission.
At that time, unit trusts paid 3%. It wasn’t hard to see what was going to be sold the most.
The 5% withdrawal, often described as tax free, was another selling point. Do you remember the income surcharge investors had to pay for their dividends too, again helping the sales of insurance bonds? And, of course, no regulation to begin with. What a cowboy’s charter.
It’s good to see how much has changed – mostly for the better. The Retail Distribution Review was a big change and the Consumer Duty has signalled a turning point for old poor practices.
Meanwhile, the active management industry is now under the most pressure I have ever seen.
Active is caught between high costs of regulation and new business rapidly disappearing to the passive industry.
Looking at the top 20 best-selling funds from major platforms today, compared to only about five years ago, I am struck by just how many are passive funds – generally the majority.
Have investors suddenly discovered that these funds are much cheaper than active? Perhaps that is some of the story, but the biggest reason is surely that old chestnut – past performance.
Simply put, passive funds have slaughtered most active funds, especially over the last 15 years or so.
This wasn’t always the case. I remember at Hargreaves Lansdown looking at passive funds in the noughties and finding most were, at best, third quartile performers.
What changed? Falling prices, the rise of ETFs and the move to global funds rather than regional funds (although the latter is, of course, still well represented by passives) have all played a part.
Before the turn of the century, global funds hadn’t been big sellers. Portfolio managers usually preferred to do their own asset allocation through regional funds. The DIY investor was also more attracted to specific funds and the media tended to centre on regional funds where there was usually more of a story to write. Global seemed more of a backwater.
But there has been another factor at play. In some ways, we got an inkling of this in the late 1990s with the tech boom and bust, which really centred on the US.
From this first boom came many of the big US winners we see today. The top US stocks now not only dominate the S&P but the global indices as well, and the US weighting in the global index is now over 70%.
With such large index companies, it becomes very difficult for active managers to have any chance of outperforming.
The US has been the standout major market since the low point of the great recession in 2009. As it dominates global indices, is it surprising global index funds have become so popular? They are, in effect, quasi-US funds.
As such, the diversification argument for buying a global fund seems quite weak and may well come back to bite investors later. It is equally possible to argue that, should the US market catch a cold, the other markets will have pneumonia.
So, today, the investment world is dominated by two factors – passives and the US.
I vaguely seem to recall Sir John Templeton saying that, once a sure way of making money had been found in markets, it was only a matter of time before some kind of disaster struck.
Will the momentum style of passive investing be its downfall? Maybe. But at least no one will get the blame, as it can only reflect the market.
Will active rise to the challenge? No chance. It’s too fraught with regulatory and business risk to do anything much different to the index and, of course, we all know you can be wrong for a long time.
I suspect the party will continue for a bit longer. Plenty of cash remains on the sidelines and pessimism still abounds. For a sense of danger, I also think too many look to the US. China looks to be the most in trouble – but that’s for another time.
In the meantime, I expect to see huge consolidation in the active management industry.
Mark Dampier is an independent consultant and can be found tweeting at @MarkDampier
Well, that’s one view. Yes, not all active fund managers do as well as or better than the passives, but that is just the point – it is the advisers’ job to select the better performing funds. And what of Investment Trusts? Have you included them in your article? Passives have a place. For those with scant resources (say less than £50k) they not be a bad option. Even in a larger, diverse portfolio it is often a good idea to have (say) 5 or 10% in a passive for each sector, if only to judge against the active funds in the same sector. But I have also found that some clients (and me included) are reverting more into direct equities. There are advantages if your portfolio is large enough to afford a decent level of diversity. Most obviously there are no ongoing or fund management charges. You can avoid all the woke nonsense if you wish. No SDR, ESG and what not and you can access asset classes that fund managers generally shy away from – defence for example. I know I’m not alone and for a significant number – active management is alive and well – there are still traditional stockbrokers around, even if they chose to call themselves wealth managers nowadays. And of course, logic dictates that if there aren’t those who invest actively, passives wouldn’t exist.
Yes Harry ITs were included, many of them have been terrible!
Alliance has outperformed over I think 7yrs by 0.5%….the price of stamp to buy and lots of people lord over the performance.
The Alternative sector has been absolutely dreadful….
I should say I am still not against all active, my point was active has to prove its worth the extra risk, in most cases sadly it isn’t .
Maybe so if you are restricted to collectives, but even then many offer a decent yield which I haven’t seen from passives (perhaps my ignorance). But when it comes to individual stock selection you can certainly knock passives out of the arena. I’m not going to mention the tech stocks or the likes of Amazon, Microsoft, Invidia etc. But if you look over 5 years there have been some spectacular performances. Just as an example – 2019 to 2024 Rheinmetall +319%. Novo Nordisk +366.9% Even Deere and BaE have put on more than 130%. And as I have said passives rely on those who actively manage otherwise there wouldn’t be a passive fund – there would be nothing to base it on. So in effect passives are treating the actives as mugs.
The prevailing dominance of the US equity market presents its challenges – and its risks too for Sterling investors. Amongst the younger community of advisers, prevailing wisdom is that ‘US equities always out-perform stupid’. Equivalent or better returns can be obtained without accepting the degree of risk inherent in global equity funds/passives. Portfolio management is about managing risks as well as opportunities.
Quite agree…
There are now infinate ways to get cost effective exposure to various parts & factors of the market whilst still managing risk and without buying a market-cap weighted Global Tracker.
The majority of the Active management industry has been too slow to accept its own inadequacies compared to this competition. Generally it has failed to innovate mostly due to its own inflated ego.