An IFA who knows Monkey with a Pin

doughnutmachine

mj62mj62 wrote: »

He also highlights how underperforming funds vanish and suddenly you can't get information on them anymore. Effectively it's each company trying to show how fantastic they by hiding their faults. Sometimes I see a fund with billions invested but charts that only go back a few years - assuming the billions didn't arrive over night, it must that the fund was closed and customers moved across into a newly name fund with no negative history.

the fund management industry also creates "incubator funds". these are funds not open to the general public, if they do well the investing public are invited to get their wallets out.

it's all to do with getting a track record to sell to people. i would assume the non performing incubator funds are folded.

jamesd

gadgetmind wrote: »

The major markets are sufficiently efficient for the vast majority of active funds to underperform trackers after fees have been taken into account.

There's also at least one US study that showed that on average active funds in the US market beat passive funds after fees, before tax. And at least one UK study that showed persistent out-performance limited only by the initial charge, which nobody has to pay these days. Even an FSA-sponsored study with massive methodological flaws found evidence that under-performance persisted.

It's always worth remembering that every passive fund can be expected to under-perform its index, not just the average of them all. In theory this isn't strictly required if they do some active work, like stock lending, and have exceptionally low fees, but I don't think it's happened yet. It'll be interesting if it does.

gadgetmind wrote: »

I remain rather more neutral regards areas such as smaller companies, emerging markets, and even (nowadays) fixed interest, but there are plenty enough active funds that underperform their indexes in these areas that I still use a mostly passive approach.

I'm not neutral since I saw the consistent out-performance in the global growth funds, where just one year's top ten placement was correlated with continuing top performance unless the managing individual had changed, which itself generally prompted a substantial decrease in ranking.

I also make substantial use of trackers, at the moment using both fund and ETF global trackers and a 2X leveraged FTSE All Share Index tracker.

gadgetmind wrote: »

We also need to consider that all the active and passive vehicles are the market.

Not so. Not all shares are held in collective investments and consumer investors in particular are renowned for getting things wrong. Even with collectives, humans have different skills and can be expected to perform differently in this activity as in others, creating opportunities for the better ones to exploit the less capable, or to exploit the predictable trading patterns of trackers to profit at their expense.

If we do sometime end up in a world where the majority of the money in markets is in passive tracking investments I hope you can see that this would create massive opportunity for non-passive investors to profit at their expense, simply by investing based on the investments that the trackers will be forced to make?

gadgetmind wrote: »

We can only have winners if we also have losers and I do really think I have the skills to be able to know which is which in advance

I certainly agree that relative losers are required, though not absolute losers - if markets go up in general all can be winning but to different degrees.

gadgetmind wrote: »

As you say, the only way to get any insight into that is to look at historical tracking error and the level of fees.

Not the only way but it's a good way for many cases. It even works in active funds, say where there is a choice between an open market version of a fund or one in a pension wrapper that charges say 0.5% or 0.25% higher AMC, a lamentably popular practice among providers. You can do a lot of good by not buying expensive versions of things.

We both know that you can do things like buying a low performing balanced managed fund that has high fees from a pension company that you're somewhat tied to because your employer uses it. And given that tie, there's much reduced incentive for the pension company to pay for capable managers, since they have a captive buying market. Such things clearly do contribute to reducing average performance of active funds. And passive, since the same happens there, fancy buying a Vanguard tracker for a mere 1% AMC from Standard Life, say, in their group personal pension? I have that product via work but I'm not about to buy that version...

Say more deals liek that happen, with Vanguard branded and non-branded but run trackers becoming a dominant part of the Vanguard business. It would then be a true assertion that the Vanguard funds on average under-perform many trackers. It would also be a true assertion that it's possible to select consistently under-performing and out-performing Vanguard trackers, and that's already a true assertion today (though of course all under-perform, so it's relative under-performance here, not absolute). This wouldn't mean that vanguard is a bad fund management company, just that it handles some bad funds and that buyers should avoid buying their consistent under-performers.

gadgetmind wrote: »

No single atom will stay at the top of the jiggling heap for long, nor the bottom.

Investment decision-making isn't random, so comparing it to things presumed to be random isn't accurate.

gadgetmind wrote: »

See the studies that have looked for (and failed to find) evidence to back up the "hot hands" theory.

I've seen many, they tend to ignore hot or cold hands by ignoring manager changes. I've yet to see even one study that asserted such results that appeared to be using sound methodology.

gadgetmind wrote: »

I'd expect them to be able to discuss p/e ratios at length, but the question was "if the FTSE drops to 4000 where do you think gold will go?"

I expect that they would comment on their thoughts about what would cause the FTSE to do that and what effect those events would have on the price of gold. I assume they would argue that it is likely to increase due to increased demand for perceived relative safety of physical assets by part of the investor population, regardless of the actual merits of such an approach.

gadgetmind wrote: »

BTW, as for implications for future returns based on market p/e (or cape) then I'd hope they'd show a scatter diagram to show that there are a wide range of future possibilities and it's just that on balance these are slightly skewed in one direction.

I definitely agree that there would be lots of variation, but I don't agree that the skewing is slight, except if investing around the middle of the range. Invest at say the top or bottom 25% and there seems to be a substantial correlation with future performance.

gadgetmind wrote: »

I don't participate in the lottery, but do I do invest in equities, and for exactly the same reasons.

I suspect that here we both avoid and use these for the same reason: the direction of the expected profit and whether it's in out favour or not.

grey_gym_sock

jamesd wrote: »

If we do sometime end up in a world where the majority of the money in markets is in passive tracking investments I hope you can see that this would create massive opportunity for non-passive investors to profit at their expense, simply by investing based on the investments that the trackers will be forced to make?

well, if most money were invested passively, in total market trackers, and also without attempting to time the market (i.e. not dipping in and out of the market, but just investing based on time to retirement, or other personal plans), then the opportunities for active management (as a whole) would be quite limited.

if trackers hold a constant 90% of XYZ plc, and active managers the other 10%, then any relative gains 1 active manager makes by going over- (or under-)weight in XYZ plc in a period when it out- (or under-)performs, are matched by relative losses for other active managers.

there is the possibility for active managers as a group to outperform when making decisions about whether (or how) to participate in new issues, and about some kinds of corporate actions. because there is no market average course of action which passive managers can follow in those cases.

there is also the possibility for active managers as a group to outperform by anticipating when trackers as a group will have to buy or sell due to changes in demographics, savings rates, etc. i.e. trackers may need to invest another £1bn, or take out £1bn, thus increasing their holding in XYZ plc to 90.01%, or decreasing it to 89.99% (and the same percentages for every other company on the market). active managers may be able to ensure that prices are higher when trackers are buying (so they get fewer shares for their money), and lower when they're selling (so they have to sell more shares to raise the required money).

this suggests to me that, if you're trying not to be too clever, being "buy and hold" may be at least as important as being passive.

gadgetmind

Please can I have links to these studies as they seem to have all come up with very different conclusions to the large body of academic research that I have encountered to date?

gadgetmind

grey_gym_sock wrote: »

if trackers hold a constant 90% of XYZ plc, and active managers the other 10%, then any relative gains 1 active manager makes by going over- (or under-)weight in XYZ plc in a period when it out- (or under-)performs, are matched by relative losses for other active managers.

ISTR that even in the US, trackers are sub 25% of the market but I'd need to check this.

Meanwhile, the active managers are all frantically buying the selling the remainder from each other to try and get ahead.

there is the possibility for active managers as a group to outperform

There are lots of ways for active managers to outperform. One such way to use make use of the way trackers have to buy and sell as equities move between indexes.

However, these small advantage do not seem to deliver enough long-term advantage to outweigh their fees.

this suggests to me that, if you're trying not to be too clever, being "buy and hold" may be at least as important as being passive.

Yup.

Another example of this comes when you compare market cap trackers with those using more complex rules. The additional buying and selling the latter causes mean such instruments have higher total fees, which can adversely affect returns.

I keep my own personal trading to an absolute minimum and prefer collective investments that use the same long-only buy and hold approach.

It looks like Buffett is going to win his million dollar bet against the hedgies, but let's wait and see.

Linton

gadgetmind wrote: »

Please can I have links to these studies as they seem to have all come up with very different conclusions to the large body of academic research that I have encountered to date?

Perhaps you could oblige as well? For example something to show that the remarkable success of small cap funds in beating the small cap index is due to the disappearance of poorly performing funds.

gadgetmind

A fair point and I'll work on that next week.

Linton

All these discussions seem to assume that the market is homogenous with all managed funds fighting each other choosing effectively random shares from the full set available to achieve maximum return. This is surely unrealistic for two reasons:

1) Segmentation: Any market can be segmented in a large number of ways, for example the FTSE All Share market may be segmented by industry, size, dividend. Assuming all funds are competing for maximum return and the market is perfect then the long term return on all these segments must be the same. Data shows that in some cases it isnt over long time periods - compare a FTSE250 tracker with a FTSE100 tracker. So one or both of the assumptions must be wrong. And there is the opportunity for managed funds to make use of this by focusing on particular segments. Or for the customers to benefit by a good choice of niche funds.

2) Chasing maximum returns. Do funds chase maximum returns? Obviously yes, but not to the exclusion of everything else. For example the ethical funds are able to attract investors even though they are all well down the fund rankings. Income funds focus on shares that pay good dividends even though the manager may believe that superior returns could be achieved with particular non-dividend shares. Other funds are deliberately defensive to minimise volatility at the cost of reduced long term returns.

This again provides an opportunity for fund managers to provide value to customers that cant be achieved by tracker funds. In particular managed funds that are solely focused on return should gain from the potential relatively poor performance of those that arent.

gadgetmind

BTW, here is how active funds are quietly side-lined and then closed when they underperform.

http://www.investmentweek.co.uk/investment-week/news/1651965/axa-liquidate-uk-small-cap-alpha-fund

Q: Where is this one in the data?
A: Conveniently removed from it.

grey_gym_sock

1) we can predict that some segments will do better than others, but can we predict which 1s? if it were obvious, wouldn't the market adjust the prices immediately, so that the expected difference in future return disappeared?

2) this is only relevant if an ethical, or income, or defensive, investment remit is actually likely to give below-average returns. which is far from obvious. if defensive includes sitting on a lot of cash, it's probably true for it, but that doesn't help with beating (e.g.) an equity index.