Active fund investors can live in hope

21 January 2015
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In the past few months a furious row has developed among investment professionals, with financial journalists like yours truly caught squarely in the middle. On one side stands the active fund management industry, on the other side are proponents of ‘passive’ investing.
 
The argument was kick-started by a public relations executive (and ex-financial journalist) who wrote a blog claiming that financial journalists “have absolutely no idea what they are talking about”.
 
A director at Sensible Investing (SI) – a not-for-profit campaign group financed by a wealth management firm – chose that blog as a springboard to complain about a media bias towards active funds. The row inevitably sucked in personal finance journalists as well as others in the industry, such as Richard Romer-Lee, the prominent founder of ratings agency Square Mile.
 
He accused the fund industry’s trade body – the Investment Association – of failing to defend the interests of active fund managers amid all the negative rhetoric.
 
So far, so boring for everyday investors, who are simply not interested in self-serving individuals or industry insiders claiming their way of investing is the only way.
 
It’s true that investors and journalists can be seduced by the idea of the star fund manager with the Midas touch, the investment guru who can take their £1,000 lump sum and turn it into £10,000 in just a few glorious years – and there are managers who outperform impressively from time to time, creating wealth for investors. However, it’s also true that many active funds fail to perform, many lose money, and charges are far too high.
 
But the binary argument of active versus passive fails to take into account investor psychology. In the same way that many people invest in premium bonds despite the odds being against them (most bond holders stand next to no chance of scooping a £1 million prize and are likely to end up with a lower return than that offered by the average cash savings account), private investors want to at least have the chance of achieving an above-average investment return.
 
Passive funds do not excite them because they know they can never outperform an index. They would rather pay more (sometimes a lot more) for the chance to do better, even if that chance is slender in the extreme. Most investors are unlikely to mute their sense of blind hope or optimism, no matter how many angry blogs are written about active funds. Calling for 80% of the active fund world to be cut overnight, as SI has done, is not a helpful suggestion (and it would be impossible to restructure the entire fund management industry anyway).
 
Nor is it sensible, as our PR man above proposed, to do away with journalists completely and allow financial services firms  to create content. Would the public really benefit from the abolition of journalists in favour of corporates spinning their own yarns?
 
A better idea is to improve transparency – of charges and fund information – so that investors can see exactly what active fund managers are investing in and exactly how much they are charging for it. 
 
At Moneywise, we welcomed recent research by the Financial Services Consumer Panel (FSCP), which found that people investing in funds directly or through their pensions and stocks and shares Isas have little idea of the true costs of doing so.
 
The FSCP recommended that investment managers be required to quote a single and comprehensive annual charge, including estimates of forward costs such as transaction charges. I think this is a sound idea.
 
At Moneywise, we’ll do all we can to press for reforms of the way fund groups levy charges, what those charges are, and whether they are justified. Once investors have all that information, they may well decide to go down the passive investing route. But if I’m honest, I still think many will choose active managers regardless. Hope springs eternal, after all.