The ticking investment time bomb — how investors got sold a myth

or decades, UK retail investors have been sold a myth.  The UK Investment Industry have woven the tale that higher fees for active management gets you higher performance, especially when times get tough, compared to passive / index managers.  When markets get tough, they can switch into cash or more defensive shares to protect your hard-earned savings.  Back in 2020, the CEO of Schroders said that the weakness of index funds would be revealed in any downturn as “The shortcomings of mechanised trading, better known as passive trading, will come into sharper focus”.

The data shows passive investment management is well and truly winning the day.  SCM Direct analysed the 2022 year to date performance of every geographical Investment Association equity sector against a comparable index benchmark, and found the average underperformance was c. 3.9%.  In 17 out of the 18 sectors analysed, the average fund underperformed a comparable benchmark.  The one sector which outperformed was European equities, but the difference was only just above 0.

Further analysis showed the average passively managed fund charged 1.24% per annum (including trading costs and performance fees) some 4x the 0.32% per annum charged by ‘passive’ funds.

This is why it is a ticking time bomb for the UK investment industry.  For years, the clients did not really know what they were paying for their fund or wealth manager.  Now, many do thanks to new 2018 legislation the Founders of SCM, Alan and Gina miller, campaigned for over many years.

The question is, why are these stars of the active management world doing so badly?  The answer consists of a myriad of factors.  Too much in over-valued growth stocks, too little in oil & gas stocks or banks, too much trading at inopportune times, too many charges to battle against.  However, one fundamental and coercive factor changed the rules of the game.  In the old days, active professional managers could beat private investors utilising better and earlier information.  Now everything is in reverse, the private investor can spend more time scrutinising the company’s data.  This data is now free and disseminated to all investors at the same time. The active fund manager edge has gone.  Of course, there will always be some with extra skill or luck who can beat the odds for a period of time but not many.  Even the great Terry Smith, running the UK’s biggest fund (£22 bn) has lost investors 21.4% in 2022 vs a loss of 13.8% for the comparable benchmark (MSCI World Index).

The investment industry is a well-oiled marketing machine that sells retail investors stories. Now one of the main stories has been found to be a myth.  A SCM Direct commissioned poll at the end of May of more than 2,000 people around the UK, revealed that low fees and charges was the most important factor (more important than even performance) when investing, particularly amongst younger groups.  This maybe why the stock market now values the old-fashioned fund managers so lowly – Jupiter on 9x prospective earnings, Liontrust 8x and even Schroders 12x.  They are fast becoming mature, low growth companies fighting the continual attrition of clients to lower cost funds or operators or both.  Many of their businesses, not just their investment styles, are ticking time bombs unless they quickly embrace and adapt to the modern world.