Vanguard investing options in market downturn

BananaRepublic

Prism: That’s an interesting link. Over ten years roughly half the active funds listed at the start have gone. I made the mistake, over twenty years ago, when I bought my first fund, of choosing on the basis of marketing bumf. I learnt the hard way, and lost only a small sum, so it was an inexpensive and very valuable lesson. Well worth the price.

I suspect an awful lot of active funds are created to be sold using glossy marketing nonsense, in the full knowledge that performance may be mediocre to poor. In other words, they are no more than a cynical vehicle to earn fund management commission. I don’t think Neil Woodford’s disastrous fund fitted that category, hubris and incompetence were most likely at play there. 

Linton

Yes it has struck me as odd that SPIVA (S&P) base their headline data on number of funds.  Surely they of all people should use  market cap weighting.

Also I notice from Table 12 that the average UK fund, asset weighted,  outperformed the associated S&P Index over 10 years in 5 out of the 8 sectors considered.  The only SmallCap sector in the list is the UK.  What about Europe/US/Japan?

Prism

Linton said:

Yes it has struck me as odd that SPIVA (S&P) base their headline data on number of funds.  Surely they of all people should use  market cap weighting.

Also I notice from Table 12 that the average UK fund, asset weighted,  outperformed the associated S&P Index over 10 years in 5 out of the 8 sectors considered.  The only SmallCap sector in the list is the UK.  What about Europe/US/Japan?

It is also odd that GBP based European funds can beat the benchmark yet Euro based European funds cannot. France, Germany, Italy, Spain and the Netherlands based active funds all failed to beat their own local benchmark yet in the UK active funds beat the UK benchmarks. UK based global funds get pretty close to the benchmark - Euro based ones are miles away. Is there fundamentally something different about UK based active funds? Do we have more skilled Fund Managers or is something else going on?

AlanP_2

Prism said:

Linton said:

Yes it has struck me as odd that SPIVA (S&P) base their headline data on number of funds.  Surely they of all people should use  market cap weighting.

Also I notice from Table 12 that the average UK fund, asset weighted,  outperformed the associated S&P Index over 10 years in 5 out of the 8 sectors considered.  The only SmallCap sector in the list is the UK.  What about Europe/US/Japan?

It is also odd that GBP based European funds can beat the benchmark yet Euro based European funds cannot. France, Germany, Italy, Spain and the Netherlands based active funds all failed to beat their own local benchmark yet in the UK active funds beat the UK benchmarks. UK based global funds get pretty close to the benchmark - Euro based ones are miles away. Is there fundamentally something different about UK based active funds? Do we have more skilled Fund Managers or is something else going on?

Is it because finacial services is a UK "speciality" in the sense that Porter's Competitive Advantage of Nations would look at it?

Given the size of the sector in the UK and the salary that top earners can get we may well attract the more intelligent / capable in and hence they do a better job "on average" than those in Europe. You often hear comments about how the UK doesn't value engneers and the like as much as Germany for example so there may be something in my vague ramblings.

BananaRepublic

AlanP_2 said:

Prism said:

Linton said:

Yes it has struck me as odd that SPIVA (S&P) base their headline data on number of funds.  Surely they of all people should use  market cap weighting.

Also I notice from Table 12 that the average UK fund, asset weighted,  outperformed the associated S&P Index over 10 years in 5 out of the 8 sectors considered.  The only SmallCap sector in the list is the UK.  What about Europe/US/Japan?

It is also odd that GBP based European funds can beat the benchmark yet Euro based European funds cannot. France, Germany, Italy, Spain and the Netherlands based active funds all failed to beat their own local benchmark yet in the UK active funds beat the UK benchmarks. UK based global funds get pretty close to the benchmark - Euro based ones are miles away. Is there fundamentally something different about UK based active funds? Do we have more skilled Fund Managers or is something else going on?

Is it because finacial services is a UK "speciality" in the sense that Porter's Competitive Advantage of Nations would look at it?

Given the size of the sector in the UK and the salary that top earners can get we may well attract the more intelligent / capable in and hence they do a better job "on average" than those in Europe. You often hear comments about how the UK doesn't value engneers and the like as much as Germany for example so there may be something in my vague ramblings.

I did a PhD at a top UK university. Straight off I can think of four people I knew who went into merchant banks, three were physics graduates. Salaries for engineers in this country are mediocre compared to Germany, France and the US. I’ve worked alongside Germans earning 50-100% more in similar roles. I’ve done okay, but I should have gone into finance. Hi ho. 

JohnWinder

BananaRepublic said:

20 years ago I drank the passive funds coolaid, as it was all the rage, with financial journalists making the sort of statements that you have made.

Then you're 20 years ahead of me, feeling my way. I want best returns, risk-adjusted; screw ideology. I'll go with anyone who'll show me how but I'm not good at living with the regret of being unwise when big sums are involved.

As a result I invested in UK and European passive funds. All of them underperformed my active funds in those markets. I now have almost exclusively active funds for UK, Europe and Japan. I tend to go for small and mid caps, which are more volatile, but generally have better returns. It is true that some can go 'off the boil'.

If there were 100 active funds you had to choose from 20 years ago, and only 10% were going to outperform the index after 20 years, you had a 0.1 chance of doing that. Choosing three funds that all outperformed would need a chance of 1 in 1000,  I think. So you were either skilled in fund picking or lucky. 1 in 1000 events certainly happen, but I'm not taking that chance; and do I have your skill in fund picking? That's what puts me off being guided by your experience.

I checked the S&P Europe 350 index and it returned 6.88% / year over 5 years, that includes dividends reinvested. The Vanguard European Stock Index Fund returned 7.04% / year over the last 5 years and 6.17% over the last 10 years. For reference my European funds averaged about 12% / year over the last 5 years. I checked my worst European fund, over 12 years it returned 7.5% / year after charges. I ended up selling that one as it has had a few bad years of late.

Glad you had good results. Random picking of funds wouldn't have achieved that, according to SPIVA, so the prospective investors should be asking everyone: 'how do I pick those winning funds, otherwise I'm taking index returns to avoid losing out on what I can easily get?'

I can't prove that some active UK/European funds are better than passive ones,

Yes, verb tense is everything. We can prove which ones were, but it seems there's no formula for proving which ones are or will be.

Sorry about the formatting.

JohnWinder

Prism said:

JohnWinder said:

Thanks for adding that. Just to put some numbers to it, what you describe as markets where active UK investors are 'relatively successful' the report shows in the ten years to June 2020 the majority of those funds were beaten by their benchmark (before or after adjusting for risk). As soon as one gets beyond 2 years, the majority of those active funds are falling below their index, except for UK small cap funds. Not sure I'd want to be that 'relatively successful' overall.

Prism said:

The SPIVA report suggests that for UK investors the UK markets, large down to small caps, and also Europe is a relatively successful place for active funds over their benchmarks. Over 10 years these regions have out performed on average based on total performance even though it is still the case that the majority of funds failed to do so.

Regret, can't see that in the report. Over 10 years UK and European equity markets (or their active funds?) have outperformed what, on average?  https://www.spglobal.com/spdji/en/spiva/article/spiva-europe

Here is link to the 2020 mid year SPIVA Europe Mid-Year 2020 Scorecard (spglobal.com)
Lets take UK equity as an example. If you were to choose randomly then yes you would likely underperform over 10 years - 69% of funds failed to beat the UK Index (page 5).
However if you take the average of all of the funds then UK actives beat their index benchmark 7.7% vs 6.68% (page 11)

Yes, same SPIVA as mine. I hope this is the right conclusion: to achieve the 7.7% instead of the 6.68% index results, I have to buy all the UK actives, or I have to buy some of the prospective winners and not too many of the losers. I don't believe I can do the latter or want the former, but if that's what it takes.....

To check where the money is you can look at the money weighted returns where the UK active funds still beat the benchmark 7.3% vs 6.68%. (page 12)
This tells us that there is more money in the better performing funds than the worse ones. An average investor in UK active funds has done better than an average investor in UK passive funds.

The unsettling element to that for me, is that while the average investor in UK passive funds will have returns like the best and worst such investor because they all get the same market returns, the worst average investor in comparable active funds will have done worse than they could have done. That's not for me, but I know plenty of folk enjoy that riskier approach. I just think it helps to know all that before you go into it.

More money going into the better returning funds; I think that's called performance chasing. Hazardous, since the late entrants have missed the better than index returns and underperformance lies ahead as a generalisation (not for all of them - but which ones?).

What it doesn't tell us for either type of fund about investor behaviour. We have no idea how many investors panic and sold out at at a low or rebought back in at a high, or in fact how many good market timers there are who sell and buy at good times.

Indeed, but there's plenty of research on investor behaviour, in USA at least, and a lot of it's teased out here: https://faculty.haas.berkeley.edu/odean/papers current versions/behavior of individual investors.pdf

Their conclusion after 35 pages:'

'Individual investors who ignore the prescriptive advice to buy and hold low-fee, well-diversified portfolios, generally do so to their detriment.'

Sorry about the formatting.

BananaRepublic

JohnWinder said:

BananaRepublic said:

20 years ago I drank the passive funds coolaid, as it was all the rage, with financial journalists making the sort of statements that you have made.

Then you're 20 years ahead of me, feeling my way. I want best returns, risk-adjusted; screw ideology. I'll go with anyone who'll show me how but I'm not good at living with the regret of being unwise when big sums are involved.

As a result I invested in UK and European passive funds. All of them underperformed my active funds in those markets. I now have almost exclusively active funds for UK, Europe and Japan. I tend to go for small and mid caps, which are more volatile, but generally have better returns. It is true that some can go 'off the boil'.

If there were 100 active funds you had to choose from 20 years ago, and only 10% were going to outperform the index after 20 years, you had a 0.1 chance of doing that. Choosing three funds that all outperformed would need a chance of 1 in 1000,  I think. So you were either skilled in fund picking or lucky. 1 in 1000 events certainly happen, but I'm not taking that chance; and do I have your skill in fund picking? That's what puts me off being guided by your experience.

I checked the S&P Europe 350 index and it returned 6.88% / year over 5 years, that includes dividends reinvested. The Vanguard European Stock Index Fund returned 7.04% / year over the last 5 years and 6.17% over the last 10 years. For reference my European funds averaged about 12% / year over the last 5 years. I checked my worst European fund, over 12 years it returned 7.5% / year after charges. I ended up selling that one as it has had a few bad years of late.

Glad you had good results. Random picking of funds wouldn't have achieved that, according to SPIVA, so the prospective investors should be asking everyone: 'how do I pick those winning funds, otherwise I'm taking index returns to avoid losing out on what I can easily get?'

I can't prove that some active UK/European funds are better than passive ones,

Yes, verb tense is everything. We can prove which ones were, but it seems there's no formula for proving which ones are or will be.

Sorry about the formatting.

Regarding your second point, I’m certain your maths are out. You say 100 funds, and only 10% outperform after 20 years, so that means a one in ten chance of blindly picking a winning fund. 

Someone has already pointed out that the SPIVA average active fund performance is an average over funds without market capitalisation weighting. That has the effect of making active funds look worse. So it’s better than one in ten. 

I have had a few funds for a long time, most for upwards of 5 years, and I can’t see myself being very lucky, or extremely clever, so something is wrong somewhere.  

I don’t doubt what you say about randomly picking funds.

I suspect an awful lot of funds are dogs. I have had countless employee pension funds, and time and time again the funds were pants. I transferred out, often later than I should have. A lot of funds were, and maybe still are, little more than vehicles for commission generation, and I suspect a lot of pension funds fit in that camp. Andy Bell who founded You Invest says he spent his early career creating pension funds deliberately designed  to be complex, and hide the charges. That must count for a lot of funds. They are easy to weed out, no sane person would choose them for themselves. But shove them in a pension marketed by shiney suited sales weasels selling glossy group pensions to companies, and Bob’s your uncle. These funds are easy to avoid as they are poor performers. As an example, I had a Standard Life pension. After ten years with no more contributions it had not grown. Only £4,000, but someone grew fat on the commission. 

Some funds are heavily marketed, HL have a lot like that. They are most likely vehicles for commission generation. Sell them heavily, pocket commission, they do badly, wind them up, start another, rinse and repeat. These are easily avoided as they have almost no historical data. The SPIVA report indicates that only ~50% of funds survive ten years. These marketing vehicles are surely in that group. 

Then there are funds that follow value investing. They do poorly and can be eliminated. Some say this style will again have its day, who knows. 

So already we see that it’s easy to eliminate a whole swathe of dogs in our quest for the golden goose. And a large part of the reason is that the finance industry is a dirty business. So your assertion that I have a one in ten chance of finding an active fund that outperforms the index is pessimistic. I probably have quite a high chance as long as I take into account some simple rules ie avoid funds with little or no performance data, avoid funds with consistent underperformance, avoid funds with a burst of outperformance (most likely luck), and target funds with consistent good performance. Those are likely to be kosher funds, with an experienced research group, ploughing fees into research rather than marketing. 

Sometimes it’s good when someone argues, and questions assumptions. 

BananaRepublic

And another point. Some indices perform much better than others eg FTSE 250 is better than the FTSE 100. If there is no FTSE 250 index fund, an active fund gives access to that index, and higher potential returns. So even if an active fund slightly underperforms the FTSE 250, it will markedly outperform a FTSE 100 index fund. This is another reason why the SPIVA conclusions are misleading. 

JohnWinder

Good points. My maths was a clumsy attempt to demonstrate that something rarely occurring can happen.

When you wrote that your active funds, plural, did better, I moved beyond a 0.1 chance of picking one good fund from 100 if 10% of them will outperform, to you having chosen three funds each with a .1 chance of being a 20 year winner. .1 cubed got me to 1 in 1000. The logic might still be rubbish even if the maths almost works. Beyond that I can't estimate your luck if you had no skill.

But clearly your description of shiny suits etc does point to skill and gives some guidance to avoid poor funds. I just don't know how to quantify my prospects of getting better than market returns using the sort of considerations you note.

Absolutely agree on value funds, but not that they can be eliminated because they did poorly as they might be about to do well.

You're not convinced you're either lucky or clever having chosen some better performing funds, but we should try to make the return comparison after taking risk comparison into account. I think SPIVA use volatility as a risk measure; while the comparisons I'd try to do is read the manager's objective ('beat the SP500') or their strategy ('buy well chosen global equities') and find something I can validly compare with an identifiable index fund. One shouldn't have faith in the SPIVA methods without knowing them, but their reports are out there for criticism and I don't see anyone fund manager pointing out that the methods are flawed.

I very much doubt SPIVA would be making the mistake you note regarding the FTSE100 and FTSE250. Clearly those indices will likely have different returns. SP would be the laughing stock of the industry; I doubt they'd risk it or be unaware of the issue. Even I am aware of it. Let us know if there anywhere in writing that leads you to believe they've goofed up on the 100 and 250.