The virtues of trackers

StevieJ

I must say I find myself very confused when I read articles like the attached and then find other commentators singing the praises of managed funds.

http://uk.biz.yahoo.com/09032007/35/become-great-investor.html

What do others think?

EdInvestor

Not a fan myself, as they have no risk protection on the downside.Great in rising markets, but when things go pearshaped, it's a different story.

For instance, the FTSE100 has still not recovered to its pre-crash high in 1999 - after more than six years

cheerfulcat

The advantage that trackers have over managed funds is that they are much cheaper, so that the investor sees more of the return. The pro-tracker argument is that most managed funds do not outperform the market, since they are benchmarked to it, so you might as well just buy the market.

OTOH, some fund managers do outperform, consistently and by a considerable margin. If you can find them, you will also outperform, at a price.

Trackers are very good for someone who is investing regularly over many years and who does not want to get too involved in the finer details of investing. They are not really suitable for one off lump sums IMHO.

Anyone who wants better than market returns needs to do some homework.

Ed - the fact that they fall with the market is a Good Thing; these falls allow you to buy more units. Had you invested regularly in a FTSE 100 tracker over the last six - seven years you would have made money.

EdInvestor

Ed - the fact that they fall with the market is a Good Thing; these falls allow you to buy more units.

This may be fine if you are a youngster building up a long term fund.
Others may not be so sanguine.

Personally I have 2 investing rules:

1.Don't lose your investment capital
2.Never forget rule 1

mroller

EdInvestor wrote: »

This may be fine if you are a youngster building up a long term fund.
Others may not be so sanguine.

Personally I have 2 investing rules:

1.Don't lose your investment capital
2.Never forget rule 1

How do apply rule 1? do you place stop loss orders?

cheerfulcat

EdInvestor wrote: »

This may be fine if you are a youngster building up a long term fund.

Well, yes, that is the main reason to invest in trackers - to build up capital over time ( as I indicated ).

Personally I have 2 investing rules:

1.Don't lose your investment capital
2.Never forget rule 1

Is that you, Mr Buffet?

Actually, and interestingly, Warren Buffet is a fan of trackers for most people...it was also Mr Buffet who explained that if you are a net buyer of shares you want them to be cheap, not expensive.

StevieJ

Over the past 25 years, the S&P 500 Stock Index produced a total return which averaged 12% a year (returns in the UK have been similar). Over the same period, a typical investor underperformed this by around 2.5 percentage points, bringing down his/her return to a more modest 9.5% a year. For investors in managed funds, returns have been even lower, thanks to ongoing management and other charges (what I call the "Ferrari Factor"), poor market timing, following investment fashions, and so on.


The point I was trying to make is that the article above quite categorically states that managed funds have underperformed the index over the last 25 years (presumably he has not invented the stats, I assume it is an average of all funds ) so why do people pick managed funds? bearing in mind that we are told that we cannot rely on past performance of managed funds as guide to future performance.

cheerfulcat

so why do people pick managed funds?

Because they are sold them by the industry. Something like 90% of unit trusts sold are sold through IFAs.

The trouble with managed funds is that most of them are benchmarked to an index and will not - can not - outperform it. Read the explanation from a fund manager, here. In particular, his point that

The typical portfolio performance of the retail funds I've seen would be 0.6% or 0.8% above the index every year, which is pretty much the best that can be achieved within the risk constraint. Of course we all know that 1.5% fees and c.0.5% other expenses are then deducted from the portfolio performance to get to the fund performance, which means the fund will typically return 1% to 1.5% under the index.

EDIT: Meant to add, index trackers are hugely popular in the US.

StevieJ

Thanks Cheerful Cat.
Mmmmmm, that is a very interesting link, plus a couple of interesting fund tips. It is interesting that he has ditched all his UK property for the time being, I must say I agree with that. I do not see the point in holding asset classes that you don't expect to perform just to balance your portfolio.

I tried to do a thanks but it does not seem to work.

Flynn_2

StevieJ wrote: »

so why do people pick managed funds?

Primarily for the reason Cheerfulcat gives. Commission-based intermediaries are paid a large chunk of our money when they sell us a managed fund but very little if they sell us a low cost tracker. They're paid both a front-end commission plus a "trail" - an annual renewal commission. It's the same reason they prefer to sell unit trusts rather than investment trusts.

The interesting point being that if "Independent" Financial Advisors were expected to honestly act solely in the best interests of the "client" without regard to the commission they were offered then why would they be offered any commission at all? They would all be recommending the same funds and the fund-managers wouldn't need to bribe them to do so. A more accurate name would be Commission-based Unit Trust Salesmen.

One legitimate reason to have some exposure to asset classes you don't expect to perform is simple insurance if you're wrong.

dunstonh

so why do people pick managed funds?

Because most trackers under perform the sector average over the long term. The FTSE 100 rarely makes it into the top half and the FTSE all share cannot because of what it is. The FTSE250 has done well in recent years but that is because mid cap was the place to be.

There are some areas where trackers are useful but there isnt enough coverage in all the sectors to build a decent portfolio with trackers. Also, on whole people are generally more cautious than the typical risk profile that is used for trackers. A FTSE100 tracker is risk rated 7 our ot 10 for example but you find more often than not (obviously everyone is different) that most people come in at 5-6 on the risk profile. A UK equity income fund is lower risk than a FTSE 100/all share tracker and they have typically out performed both of those.

If you recommend a FTSE all share tracker you are destined to be below average performance. The managed funds offer that potential to be above average performance. You take your pick to what you prefer.

I took over a portfolio back in 2001 for a new client who was fully invested in HSBC's FTSE all share tracker. I rebuilt the portfolio using sector allocation using 11 funds (none of which were trackers). At last review he was 73% up. Had he stuck with the FTSE all share tracker he would be 18% up.

You should use trackers where they are appropriate but you shouldnt go investing in trackers for trackers sake and the same with managed funds. As it happens, until middle of last year, I used FTSE 250 trackers heavily for part of the UK allocation. Same commission was paid as the managed funds.

IFAs are damned if you do and damned if you dont. Most people that are critical of IFAs have never used one.