Using IFA's

atush

People here seem more 'reasonable' than the national average yet we are still full of examples here of those who refuse to hold funds, but intead rely only on cash, property or Gold.

robmatic

hodd wrote: »

I think this is the best advice of all.

IFAs may do their best to identify a client’s risk profile, but a “reasonable person” (which is not wishy-washy speak and is actually a legal term used to describe a normal, rational person) wishing to invest for a decade or two would include funds in their portfolio.


Meanwhile, the passive v managed fund argument rages on without conclusion, but the number of IFAs prepared to recommend a passive fund is, in my experience, limited. Yes, I ask every IFA if they are 100% independent, but even independents are loathe to recommend a tracker fund.

I’d like to know why this is.

Cognitive dissonance. If you've spent 10 years recommending products based on marketing/commission then you will find other reasons to continue making the same decisions, otherwise you invalidate your previously held opinions.

The same applies to the OEIC vs investment trust debate - IFAs need to find reasons now to not use ITs when previously they weren't considered due to the lack of commission.

Rollinghome

hodd wrote: »

Meanwhile, the passive v managed fund argument rages on without conclusion, but the number of IFAs prepared to recommend a passive fund is, in my experience, limited. Yes, I ask every IFA if they are 100% independent, but even independents are loathe to recommend a tracker fund.

I’d like to know why this is.

The problem in the past was that IFAs were paid the best commission for selling products with the highest charges and so tried to avoid trackers at all costs. It was the reason for the FSA banning of all sales commission (on advised new investment products) since January this year.

Before RDR it was rare for any IFA except those working on a fee basis to recommend an index tracker but since the banning of sales commission there's evidence that trackers funds are being more frequently recommended and their sales continue to rise.

I suspect that the business model of most advisers will be to continue recommending at least some active managed funds because it's then easier to justify charges for ongoing advice and fund switching than with trackers. It's up to the investor to see if the higher charges are justified and question the quality of the advice if they aren't.

Rollinghome

robmatic wrote: »

The same applies to the OEIC vs investment trust debate - IFAs need to find reasons now to not use ITs when previously they weren't considered due to the lack of commission.

I don't expect to see ITs widely recommended by IFAs any day soon and then only by those dealing with HNW clients able to pay for a genuinely bespoke service.

With most run of the mill IFAs having never used them in the past due to not paying commission, in my experience they just don't understand them. They also require more expertise and decent up to date research which most small IFAs don't have access to.

OEICs that allow them to recommend the same dozen or so funds to everyone are much simpler for them.

There's also a problem for them of additional costs. If they buy them through a platform there'll be an additional 0.25% pa or more of charges for the investor to pay that could normally be avoided if the investor bought ITs direct.

dunstonh

Meanwhile, the passive v managed fund argument rages on without conclusion, but the number of IFAs prepared to recommend a passive fund is, in my experience, limited. Yes, I ask every IFA if they are 100% independent, but even independents are loathe to recommend a tracker fund.

I’d like to know why this is.

Because its fairly easy to find managed funds that have the potential to outperform in most areas.

IFAs need to find reasons now to not use ITs when previously they weren't considered due to the lack of commission.

Most did not recommend them as they were outside of remit as you needed stockbroker permissions. However, not recommending them for most people is fairly easy too. Higher risk level on a like for like basis and higher charges would be common reasons. I've used several since the permissions were changed but I dont expect to using them heavily.

grey_gym_sock

dunstonh wrote: »

Higher risk level on a like for like basis

that is surely correct for ITs compared to funds investing in very liquid investments.

but what about illiquid investments, e.g. property? that's much less clear-cut. i'd tend to regard funds as riskier in this case.

hodd

dunstonh wrote: »

Because its fairly easy to find managed funds that have the potential to outperform in most areas.

With respect, is it? The likes of Tim Hale and John Kay, for example, have impressive credentials and have written successful and acclaimed books in a field where such books are ten a penny. Neither of these authors are complimentary about managed funds. Not wishing to be disrespectful, but the quote above contains the words “fairly easy”, “potential” and “most areas”, which does suggest a degree of uncertainty. Please bear in mind, these managed funds have expensive fees, with TERs of maybe 2.5% or even more compared to a tracker with a TER of around 0.25%. An example search on Google finds the following:

http://www.fool.co.uk/Your-Money/guides/Index-Trackers-Vs-Managed-Funds.aspx

“For instance, a study by research firm WM Company found that 82% of managed funds failed to beat the market over the course of twenty years.”

As someone who will start a SIPP pension in 2013/4, I’m genuinely curious about the above and not just being quarrelsome. The statistics above show it is far from easy to find managed funds that will outperform. I’d like to know how this is done.

bowlhead99

Hodd- I guess there are a few counterpoints to your posts. Sorry for wall of text to follow - I blame insomnia!

Hale et al have indeed written successful books in a field of a lot of books. Some of this is due to a good accessible writing style, simple concepts, and word-of-mouth from all the passive investment fans who find his book a good read and an easy sell. We all like to find a simple and easy and cheap way to do things whether it's investing or losing weight or making dinner. Index investing is an attractive concept; that doesn't actually mean that everything he says is gospel or that a more balanced viewpoint (less anti- the managed funds), less simple concepts, would not deliver better results.

He quotes and gives thanks to the guys and Vanguard and others for their assistance in putting together his research - they are more than happy to assist because his book is marketing their funds.

You mention managed funds having fees of 2.5% versus trackers at 0.25%. But to be fairer, you know that the vast majority of active funds are not as high as 2.5% (1.5% has been more of a rule of thumb) and the vast majority of trackers are not as low as 0.25. The Fool article you linked to, suggested 1.5% vs 0.5% which is a 1% premium and not a 2.25% premium. And as you're probably aware, the elimination or rebating of adviser commissions within the management fee as part of RDR, and the future review of platform commissions, is driving down the active fund fees to more acceptable levels. So perhaps we will be talking 1% vs 0.3% looking forwards.

If you consider some less-efficient markets with lower quality and availability of information, lower transparency, lower standards of corporate governance compared to the FTSE100 or S&P500 (e.g. China, smaller companies, etc), managers with large local teams doing diligent fundamental research can consistently beat the market - which is full of idiots and people blindly following an index because they just want exposure to that region and they don't care what company, which creates lazy managers in good years. Sure, some can prosper by luck and then do badly other years, and support your argument that you might as well just take the average. But you can find quality if you look at track records in good times and bad. The 1% premium over a tracker is fine when your fund delivers 50-80% against an index or market return of 30%.

Even in well developed western markets, there are advantages to being in active funds. If a manager tells you in the monthly factsheet that he shares your views that financial companies or mining companies or dotcom companies have had a crazy run up in the last economic cycle, you can be more comfortable that he will not be invested in them as heavily when it all goes pop.

Someone whose fund has to track an index is going to have to invest 4% of his US fund in Apple whether he likes it or not and whether you consider it's appropriate to have large single-company exposure. Based on sheer size of market cap he has to have very much more in Apple than in other tech companies which might have similar prospects. In the UK he can't invest anything like as much in a quality retailer or into high-tech industries as he has to put into oil and financials and big pharma.

You can say this is fine because it all averages out, every trade has a winner and a loser and picking a manager is a coin toss. But with active funds there is the opportunity to fine tune the risks somewhat and so active funds can meet your needs better, depending what your needs are. We have to use words like 'can' 'potential' etc because there are no certainties. Finding the good manager for the next economic cycle requires research and some luck.

Taking the index return gives greater certainty. But while it tells you you won't be embarassed about your performance when your returns keep up with the index reported on TV, that figure is not the same as the actual average growth experienced by a company in that market. It is the average of all the companies' returns skewed extremely heavily to the largest companies. The economy could experience 5% growth with 9 out of 10 shares across the whole market going up by a nice amount, but if the largest few companies fall in price your tracker fund still loses, even if you're happy with it because it 'kept up with the market index'.

So there are some sensible arguments against trackers here. It is worth noting that the larger studies included in the research that says active funds give lower returns than trackers on average, comes from the US market. There, the mutual funds get taxed on the micro profits and losses when they buy and sell positions and so the net cash they send back to the investor might be lower than what a buy-and-hold tracker would deliver who did not trade during a year. That skews the result a little in favour of trackers which you would not get with UK OEICs.

Also the US largecap market is the largest and most developed on the planet, so if a tracker could work anywhere, it would work there. It doesn't mean you can extrapolate the research to suggest that the best way to access Latin America or Asian companies or smaller domestic companies or high-income paying stocks or recovery / special situations stocks during a recession, is to buy all the companies that an index tells you to, driven by some formula.

It is easy to buy and hold an index and it is part of many people's portfolios (including mine and probably some IFAs'). But IFAs would not say to use them exclusively. I don't believe this is some hangover from commission bias with financial advice, it is due to the nature of what they can deliver and their limitations.

Whew, long post. Don't get me wrong I am not anti-tracker. I put forward the very arguments you suggest in this thread: , post 6. It explains the pro-tracker view, which you would get from Tim Hale, but it doesn't mean trackers are the be-all and end-all of the funds universe.

In terms of reliably identifying good managers - for me it really comes down to reading (beyond the latest fact sheets) and researching their performance through thick and thin. IFAs are at an advantage as they (or their outsourced due diligence partners) will have a lot of information on this to conclude the real risk rating of a fund and where it fits in a portfolio.

The key thing if you are following a tracker-based approach in your SIPP, to the exclusion of all the specialist managers is to understand what it is tracking and therefore what are you actually constructing your porfolio out of.

- If you don't know what sector or asset class or geography will perform, you might want to be in all of them and periodically rebalance. Many trackers do not have a balanced mix of sectors, and with regional trackers you'll find that actually the large companies have exposures in other regions anyway (HSBC is listed in London, Coke in New Yoirk, neither get all their customers from those places).

-And if all the world equity markets are quite well correlated anyway, you need to look beyond equities to bonds, real estate and various other asset classes too. Not all areas are as well served with famous well known indexes that you see in the daily newspapers.

Not sure if this helps you! But just worth noting that even if finding good-enough managers is not easy, this doesn't mean you'll do as well as you should by diving into trackers if you are doing it because a book tells you to, rather than because you know what you're doing.

dunstonh

Please bear in mind, these managed funds have expensive fees, with TERs of maybe 2.5% or even more compared to a tracker with a TER of around 0.25%.

That is incorrect and obsolete as you are not comparing like for like. Use clean funds for charging and single sector managed funds tend to come in with a TER of around 0.75 to 1.10%. Trackers tend to be 0.1-0.3%.

With respect, is it?

Yes. With my response focusing on the word "potential". When you invest, you have the objective to aim for the potential outperformance of cash. That potential exists whether it is managed or tracker. The use of a managed fund over tracker just extends that potential as you buy a managed fund to potentially outperform the tracker.

So, if it is good enough to use a tracker to potentially outperform cash then why is it not good enough to use a managed fund in areas where you believe it has the potential to outperform a tracker?

“For instance, a study by research firm WM Company found that 82% of managed funds failed to beat the market over the course of twenty years.”

Which you would expect.

Firstly most managed funds are portfolio funds that have a lower risk rating than the market and invested more cautiously. So, they have little chance of ever beating the market over the long term. However, they have a lower level of volatility which is more suitable for the average consumer who does not want high volatility.

Secondly, with managed single sector funds, the ones that can add value are those that are focused in areas where there is little or no tracker coverage or where trackers themselves offer limited potential. Property, fixed interest, fledgling markets or focused parts of a market (e.g. UK equity income). There is little point using a general UK growth fund in managed form. You may as well use a tracker. However, when you look at say equity income, that changes.

Thirdly, managed single sector funds are often focused on certain areas which will have good times and bad depending on where you are in the economic cycle. Effectively you may buy into them for x number of years and then move on. e.g. Use large caps/equity income for a period then move on to recovery or special sits. They are better suited for people who are more active in their investment management. A lazy investor (invest and forget) is better suited to portfolio fund (which can be either managed or tracker based).

Where trackers offer best potential for the objective, they should be used. Where managed funds offer best potential for the objective, they should be used. Anyone that sits on either side of tracker/managed camps exclusively is just biased and unreasonable.

Robin_TBW

No gain, no fee?

So he does absolutely everything he can for you, but the markets are just working against him so he doesn't gain anything at all? Where's the fairness in that? He's doing the best job possible but other circumstances are up against him.

Then you've got to take into account that investments are to be seen as something over more than five years. When are you planning on paying him his percentage? Is every IFA then meant to work five years for free on the understanding that he MIGHT get paid after that as long as the markets are doing reasonably?

What a terrible suggestion. Feel free to take the idea to Dragon's Den.