Is passive for pensions & active for S&S ISA a sensible approach? Also please review my plans.

noclaf

Op, I am 6 years older than you..100% Global Equities across pensions, LISA & S&SISA. I am using active funds for the pensions, an etf in the LISA and a fund for the S&SISA. Active Vs Passive is not really a consideration for me personally but I acknowledge that it should be a consideration if you have a view that a particular segment of the market would be better served by an active fund rather than passive. I switched both my pensions funds to Active Global Equities as the default funds were quite poor performers. One of my pensions funds has a higher allocation to EM but as my other investments are at 10% or less, I have no issue with one fund having a bigger tilt towards EM.  My etf choice for the LISA was driven by cost as it's the cheapest of all my investments. My  active pension funds are pricier than the standard default funds so saving on fees in the LISA helps to balance out the costs at least in my mind.

JohnWinder

Forgive me if I’ve misread your situation.

Your plan is fine, it makes sense, your mixing is ok and funds suitable in my view, because you’re financially secure beyond these plan elements, and you don’t see you really have much need for this money, and it sounds like you’ll buy index huggers. But I have some observations and rhetorical questions.

It seems you’re moving to active investing for better returns, based on my reading that you talked yourself up from 70% to 85% to 100% equities, and then onto 4 active funds that have done well.

I think you have to expect more volatility from the active funds. They’re choosing particular stocks to get outperformance, which if they get it puts them at risk of underperformance at some stage if they pick the wrong stocks (and don’t have as much ballast as a global fund). Alternatively, if the fund is an index hugger it should have volatility like the index fund, and returns like it too. Are the funds you’ve chosen index huggers, in which case are the higher fees worthwhile; or are your funds ’shoot the lights out’, and thus likely more volatile?

If they’re more volatile, you’d want higher returns, otherwise why take on the risk? Will they get higher returns? On average, overall, active funds can only get market returns, nothing more or less, since the passive investors are getting market returns, so they’re the only returns left for the active investors to share in, ‘winners’ and ‘losers’. So that is your ’statistically expected’ situation: more risk (as measured by volatility), same returns.

But…..perhaps your funds will outperform the market while you hold them. What do we know about that? The SPIVA reports show that the majority of active funds underperform their index over periods of more than about 3 years. So, how do you pick the funds that will outperform? You’ve chosen past performance as a guide, in addition to your ‘index hugging’ criteria and not-high fees.

You can read the Morningstar Performance Persistence Among U.S. Mutual Funds report from 2016. It says:

' There is some evidence that relative fund performance persists in the short term. In the equity categories, this appears to be attributable to differences in exposure to momentum stocks, rather than differences in manager skill.

 Over the long term, there is no meaningful relationship between past and future fund performance.  In most cases, the odds of picking a future long-term winner from the best-performing quintile in

each category aren’t materially different than selecting from the bottom quintile.

Overall, the results strongly indicate that long-term investors should not select funds based on past performance alone. '

We should note this warning appears on every investment packet as similar warnings appear on every cigarette packet.

As convenient as it is for me to quote only this source, there’s plenty more, less simply put, with a UK focus if you search for ‘equity fund outperformance persistence uk’. Swedroe has a view on why this might be the case: https://www.evidenceinvestor.com/a-mistake-that-costs-investors-15-billion-a-year/

Lastly, fund management costs: Morningstar research concludes that this is the single best predictor of equity fund future performance, and the lower the cost the better the performance. It’s a strange notion for we who have so much experience showing the more you pay the better the product you get, but why should it be in investing and it appears it may not. https://sg.morningstar.com/sg/news/149640/fund-fees-predict-future-success-or-failure.aspx 

Lastly, distractions on the journey to good long term investing outcomes. You wisely chose to be ‘pretty diverse geographically’; someone points out that where company headquarters are is irrelevant - it’s where revenues come from that counts; someone else says there's a tool which analyses that aspect of funds you’re interested in, but you have to pay to use it.  What's the problem here? No doubt, where profits are generated is more relevant than where companies are headquartered, but how important is it? And how does that importance compare with some other influence on investment returns that you and I aren’t even aware of and haven’t been raised by others in this discussion (but are, or are even not, aware of themselves)?  As inadequate as the consideration of where profits are made, almost alone since there are bound to be other considerations we’re unaware of, is, how are we going to evaluate the accuracy of this tool we need to pay to use?

As much fun as delving into the intricacies of investing is, I just can’t see that a geographical consideration like this is any more than a distraction down a rabbit hole without end when it comes to long term investing outcomes. It’s easier, safer, cheaper, and probably will be more profitable for us to just buy the market, as you’ve chosen to with your other investments.

A different approach to juicing up risk/returns compared to index funds is to buy them with borrowed money - leverage. That boosts the gains, and the losses, and modest leverage ought not end in tragedy.

hoc

If doing one active and one passive, logically before retirement it should be the other way. S&S has the flexibility of access at any time. Passive with less volatility is more suitable for any time access.

deltrotter

What's your edge in choosing the active component?
Do you know something others don't?
Will the funds you have chose always outperform the passive (if indeed they ever do)?
What is your criteria for culling/changing your active funds? Is it that they underperform for a set period of time?
If yes, what do you swap to? Is it a fund that has outperformed for a set period of time?
If yes, will it continue to do so?
And so the merry go-round continues...
Why not take a look at some of the evidence of how many active funds outperform the market over X number of years?
I love the way you have got such a handle on your finances at such an age. If it were me, and this is no advice, I'd be 100% global tracker.
Go to a compound interest calculator type in the amount you can invest, give it a 5% interest/compound for 25 years and then ask yourself if you would be happy with that figure...
Note: I say 5% as a relatively conservative figure for after inflation returns on a global tracker.
If you are NOT happy with that then go to Line 1 above!
All IMHO
Del

Thrugelmir

deltrotter said:

I love the way you have got such a handle on your finances at such an age. If it were me, and this is no advice, I'd be 100% global tracker.
Go to a compound interest calculator type in the amount you can invest, give it a 5% interest/compound for 25 years and then ask yourself if you would be happy with that figure...
Note: I say 5% as a relatively conservative figure for after inflation returns on a global tracker.

I never knew investing was so easy. 

eskbanker

Thrugelmir said:

deltrotter said:

I love the way you have got such a handle on your finances at such an age. If it were me, and this is no advice, I'd be 100% global tracker.
Go to a compound interest calculator type in the amount you can invest, give it a 5% interest/compound for 25 years and then ask yourself if you would be happy with that figure...
Note: I say 5% as a relatively conservative figure for after inflation returns on a global tracker.

I never knew investing was so easy. 

          

Bobziz

eskbanker said:

Thrugelmir said:

deltrotter said:

I love the way you have got such a handle on your finances at such an age. If it were me, and this is no advice, I'd be 100% global tracker.
Go to a compound interest calculator type in the amount you can invest, give it a 5% interest/compound for 25 years and then ask yourself if you would be happy with that figure...
Note: I say 5% as a relatively conservative figure for after inflation returns on a global tracker.

I never knew investing was so easy. 

          

And they were, briefly, before blowing it all on the stock market...

deltrotter

Yup, they thought they had an edge. They could consistently pick the stocks and funds that would beat the market, year after year.

😜

traveladdict241

noclaf said:

Op, I am 6 years older than you..100% Global Equities across pensions, LISA & S&SISA. I am using active funds for the pensions, an etf in the LISA and a fund for the S&SISA. Active Vs Passive is not really a consideration for me personally but I acknowledge that it should be a consideration if you have a view that a particular segment of the market would be better served by an active fund rather than passive. I switched both my pensions funds to Active Global Equities as the default funds were quite poor performers. One of my pensions funds has a higher allocation to EM but as my other investments are at 10% or less, I have no issue with one fund having a bigger tilt towards EM.  My etf choice for the LISA was driven by cost as it's the cheapest of all my investments. My  active pension funds are pricier than the standard default funds so saving on fees in the LISA helps to balance out the costs at least in my mind.

Interesting, which funds do you hold?

traveladdict241

JohnWinder said:

Forgive me if I’ve misread your situation.

Your plan is fine, it makes sense, your mixing is ok and funds suitable in my view, because you’re financially secure beyond these plan elements, and you don’t see you really have much need for this money, and it sounds like you’ll buy index huggers. But I have some observations and rhetorical questions.

It seems you’re moving to active investing for better returns, based on my reading that you talked yourself up from 70% to 85% to 100% equities, and then onto 4 active funds that have done well.

I think you have to expect more volatility from the active funds. They’re choosing particular stocks to get outperformance, which if they get it puts them at risk of underperformance at some stage if they pick the wrong stocks (and don’t have as much ballast as a global fund). Alternatively, if the fund is an index hugger it should have volatility like the index fund, and returns like it too. Are the funds you’ve chosen index huggers, in which case are the higher fees worthwhile; or are your funds ’shoot the lights out’, and thus likely more volatile?

If they’re more volatile, you’d want higher returns, otherwise why take on the risk? Will they get higher returns? On average, overall, active funds can only get market returns, nothing more or less, since the passive investors are getting market returns, so they’re the only returns left for the active investors to share in, ‘winners’ and ‘losers’. So that is your ’statistically expected’ situation: more risk (as measured by volatility), same returns.

But…..perhaps your funds will outperform the market while you hold them. What do we know about that? The SPIVA reports show that the majority of active funds underperform their index over periods of more than about 3 years. So, how do you pick the funds that will outperform? You’ve chosen past performance as a guide, in addition to your ‘index hugging’ criteria and not-high fees.

You can read the Morningstar Performance Persistence Among U.S. Mutual Funds report from 2016. It says:

' There is some evidence that relative fund performance persists in the short term. In the equity categories, this appears to be attributable to differences in exposure to momentum stocks, rather than differences in manager skill.

 Over the long term, there is no meaningful relationship between past and future fund performance.  In most cases, the odds of picking a future long-term winner from the best-performing quintile in

each category aren’t materially different than selecting from the bottom quintile.

Overall, the results strongly indicate that long-term investors should not select funds based on past performance alone. '

We should note this warning appears on every investment packet as similar warnings appear on every cigarette packet.

As convenient as it is for me to quote only this source, there’s plenty more, less simply put, with a UK focus if you search for ‘equity fund outperformance persistence uk’. Swedroe has a view on why this might be the case: https://www.evidenceinvestor.com/a-mistake-that-costs-investors-15-billion-a-year/

Lastly, fund management costs: Morningstar research concludes that this is the single best predictor of equity fund future performance, and the lower the cost the better the performance. It’s a strange notion for we who have so much experience showing the more you pay the better the product you get, but why should it be in investing and it appears it may not. https://sg.morningstar.com/sg/news/149640/fund-fees-predict-future-success-or-failure.aspx 

Lastly, distractions on the journey to good long term investing outcomes. You wisely chose to be ‘pretty diverse geographically’; someone points out that where company headquarters are is irrelevant - it’s where revenues come from that counts; someone else says there's a tool which analyses that aspect of funds you’re interested in, but you have to pay to use it.  What's the problem here? No doubt, where profits are generated is more relevant than where companies are headquartered, but how important is it? And how does that importance compare with some other influence on investment returns that you and I aren’t even aware of and haven’t been raised by others in this discussion (but are, or are even not, aware of themselves)?  As inadequate as the consideration of where profits are made, almost alone since there are bound to be other considerations we’re unaware of, is, how are we going to evaluate the accuracy of this tool we need to pay to use?

As much fun as delving into the intricacies of investing is, I just can’t see that a geographical consideration like this is any more than a distraction down a rabbit hole without end when it comes to long term investing outcomes. It’s easier, safer, cheaper, and probably will be more profitable for us to just buy the market, as you’ve chosen to with your other investments.

A different approach to juicing up risk/returns compared to index funds is to buy them with borrowed money - leverage. That boosts the gains, and the losses, and modest leverage ought not end in tragedy.

Thanks for the effort you've gone into this, very useful.

Yes I am thinking to go active on the ISAs to chase higher returns. Having given it further thought I think I would be more annoyed if the four funds I've chosen outperformed the HSBC/Vanguard FTSE Global All Cap over 5 years and I hadn't gone for them, than if they underperformed say by a couple of % - especially if my investments go up anyway.  I'm conscious of the effect fees can have but these four combined work out at only 0.6% more than HSBC/Vanguard which I don't consider overly excessive either. 

Having done a morningstar Xray on the four funds their 5 year volatility is 13.22 versus 15 for the FTSE Global All Cap Index so perhaps less volatile but again there is a risk it's not for the next 5 years. I don't consider them to be simply market huggers as BG & Rathbone in particular seem to have their own investment approach/style and don't seem to be simply trying to match the benchmark with their holdings. I've read and listened to a fair bit and am impressed with what I've seen so far. Rathbone for example doesn't invest in emerging markets, so I have exposure to this elsewhere in the other funds. So I'd argue all four are a bit different and combined provide a well diversified portfolio (unless people can give reasons why not, I'd be happy to hear why) giving me a fighting chance to beat the index. I don't see them as overly risky either and none have large proportions of their holdings in individual companies - this was a criteria to their inclusion and I dropped other funds off the shortlist if they were heavily into a particular stock or select few.

Interesting about past performance statistically being irrelevant in the long term. I guess I hope I'm going for four well respected funds in the hope a couple will provide the gains to beat the index, e.g. one takes off really well for whatever reason making up for others not doing as well. I guess time will tell. But if i'm going to invest for 30y in equities in my pension I think I can afford to make this mistake chasing higher returns now in the ISAs if it proves to be picking the wrong horses this time, right? Maybe in 5y I'll say lesson learned, I'll move it all to Vangaurd/HSBC and forget all about investing strategy, just pay the money in.

I appreciate I'm saying here I hear what you are saying and am going to ignore it for part of my portfolio but I will remember the points you've raised. I know you are right, on average, but I think I'm still going to chase the dragon.

Final point, our pensions combined have £80kish currently and a long time to invest it. That's why I'm going with the passive sensible long term approach and not trying to beat the market. I guess with the ISAs I'm starting from nothing so less to protect as it stands. Maybe when these are built up I'll come to the same conclusion anyway as I have with the pensions.