Do multi-manager funds live up to their claims?

8 June 2010

The multi-manager market is blossoming. According to the Investment Management Association (IMA), 10 years ago there was £11 billion in multi-manager funds; by the end of 2009 there was £42 billion.

The number of funds has mushroomed too, with over 400 now available to UK investors.

The argument for multi-managers is simple: rather than trying to make the right call in every market and every asset, you hand over your choice of funds to a fund manager, who can select from the best funds on the market and take the decision-making out of your hands to ensure better performance.

It sounds convincing, but the question is whether the fund performance lives up to its promise.

What multi-manager funds are available?

There are two different types of multi-manager funds. The first is the fund of funds, where the expert will invest in a range of existing retail funds on the market.

These come in two varieties: the fettered fund of funds, which invests in the funds of just one investment company, and the unfettered fund of funds, which can pick from any fund on the market.

It's also worth being aware of the new breed of funds of funds, the multi-asset fund, which actively manages asset allocation within its spread of funds to take advantage of the assets offering the most potential for growth at any given time – whether that's shares or gold ingots.

The second variety of multi-manager is the manager of managers, where a central manager will appoint other managers to run different parts of the portfolio according to a specific mandate.

The question of whether the performance of these funds lives up to the theory is answered with a disappointing 'it depends'. Firstly, it depends on what you're measuring.

Straightforward comparisons of the best-performing multi-managers with the best performers among their traditional counterparts will never be good for the multi-manager.

Top-line performance can't compare well because the fund blends the best performers with others in order to diversify, so it can never do as well as the best traditional funds.

According to figures from Trustnet, for example, the best cautious managed fund over the past five years has been the CF Ruffer Cautious Managed fund, producing 69%.

At the same time, the best cautious multi-managed fund was Henderson Multi Manager Income and Growth at 50%.

The pattern is even more striking in the balanced sector, where the best-performing multi-manager fund of the last five years is CF Miton Special Situations Portfolio at 66%, and the best non multi-manager is CF Ruffer European at 117%.

Proponents of the approach would say it shouldn't be judged on this, because performance isn't intended to shoot the lights out but produce reliable returns and avoid volatility.

Unfortunately, when you compare performance over time and ask whether multi-managers deliver, the answer – again – is that it depends. This time it depends on what funds you look at.

Something racy like the non-multi-manager Neptune Global Alpha fund is clearly spectacularly volatile, producing 84% over five years but just 1% over three years.

The best multi-managers in the same aggressive sector generally compare well, proving far less volatile over the same period.

However, if you were to compare it to something like the Invesco Perpetual Managed Growth multi-manager (still one of the best performing in the sector), its returns of 45% over five years and 1% over three, show less dramatic swings, but the fund does worse in both periods.

Lack of volatility on its own is therefore not enough, it needs to be allied to performance.

The variability in performance within the multi-manager sector reveals there's no magic alchemy that occurs within a multi-manager fund.

Exactly as with every other fund, some are strong and some are less so. The myth that diversification automatically brings long-term performance without volatility is exactly that: a myth.

Managers of managers

One approach, in particular, disappoints almost across the board. Managers of managers make just one appearance in the cautious, balanced and aggressive top 10 in the last five years. Meanwhile, it takes the bottom spot in two out of three categories.

Ben Yearsley, investment manager at Hargreaves Lansdown, which runs its own multi-manager funds, says: "Managers of managers struggle to react to poor performance because it is harder to get rid of a manager.

"A fund of funds, can sell funds in a day, whereas replacing a manager is much more involved."

Other advisers dislike the whole approach of multi-managers. Jason Witcombe, an adviser with Evolve Financial Planning, believes it's fundamentally flawed: "I don't mind paying 1.5% a year for a truly active fund, a high conviction fund that takes pretty big bets – if you're going to pay for active management you may as well do it properly.

"But with multi-manager, you have a lot of diversification diluting the returns of things that do well. A lot of them are nothing more than closet trackers with high charges."

Adrian Lowcock, senior investment manager at Bestinvest, specifically dislikes those with a small investment universe, such as UK income multi-managers: "It doesn't require a great deal of skill to pick good funds in this sector," he says.

All the experts we asked highlight the additional costs involved in the multi-manager approach.

Funds of funds can access the underlying funds more cheaply than a retail investor, while managers of managers claim the fees they pay for managing part of the portfolio are cost-effective.

But, on top of this there is another level of charges, for the multi-manager themselves. Once the two levels are added together, it can easily push 2% a year, which doesn't compare well with other funds.

Witcombe says: "If you look at performance in 2009, no investor will worry about charges, but not every year is like last year and in a low-return environment charges matter. People should treat charges and costs as a proper expenditure."

Some funds sell themselves on the fact their charges are lower than the rest of the multi-manager universe.

This includes the multi-manager investment trust Witan, which has a TER of 0.7% purely because the fund is so large that charges can be spread across many more investors, making it competitive against more traditional funds.

Witcombe says: "A lot of funds also use tracker funds or exchange traded funds as core holdings to keep costs down." However, he doesn't consider this a convincing reason to invest:

"The fact remains the manager is saying they can beat the market, but not everyone can. Very few active funds consistently beat the market when charges are taken into account.

"If you add in an extra level of charges, the evidence is even more stacked against you. The chances of picking the one that can beat the market is very slim. We prefer index trackers."

Daniel Claydon, director of IFA firm Claydon Associates, agrees: "The big issue regarding actively managed funds is that statistically only about 20% outperform the market.

"You have to ask whether the extra charges are fair value given the low odds of beating a passive fund."

Investors seeking the fund that can beat the odds are at an additional disadvantage, as multi-managers have been moving around so much, comparisons are tricky.

Of those funds around 10 years ago, Defaqto has found only 5% have a track record going back to 2000 under the same named manager.

It makes a mockery of the claim that you don't have to keep an eye on fund manager moves – because you still have to worry about multi-manager moves.

Why are they so popular?

Given the fact that the performance of so many multi-managers is so poor and the charges comparatively high, the question remains as to why they are proving such a hit with investors.

Claydon says the marketing appeals to some investors. "I think a lot of multi-managers are almost trying to present themselves as a one-stop shop," he says.

For those with a small amount of money, a multi-manager can provide diversification.

For those who don't consider themselves to be experts and find it hard to choose funds in each sector, it will appeal to have an expert at the helm, and for those who don't have the time or energy to keep an eye on fund performance, the idea of handing it all over to someone else will be attractive.

Claydon adds these funds are also being pushed by some advisers. He says in a world where the regulator demands proof that customers are being treated fairly, recommending multi-managers is the safe bet.

It's important, however, to bear in mind that these funds will be suitable for some people. The experts may argue that a multi-manager doesn't have a great chance of picking the winners, but you may feel that an expert has a better chance of doing so than you have.

Alternatively, you may feel it makes a useful core investment with more individual selections as satellites, or that it's a chance for diversification in a small portfolio.

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