Active vs. Passive investing: The hidden performance of UK funds – Somerset Webb

In the UK, passive investment in open-ended funds has surged from 19% to nearly 30% over the past decade, driven by lower costs and lacklustre performance from active funds. However, recent research reveals a nuanced picture: genuinely active funds—those with high "active share"—have outperformed their passive counterparts over the long term. Merryn Somerset Webb explores the shifting dynamics between active and passive investing, highlighting the importance of fund selection for investors seeking true value..Sign up for your early morning brew of the BizNews Insider to keep you up to speed with the content that matters. The newsletter will land in your inbox at 5:30am weekdays. Register here..By Merryn Somerset Webb.A decade ago, a mere 19% of the open-ended funds domiciled in the UK invested passively. .___STEADY_PAYWALL___.report.But think a bit harder, and it's hard to make sense of it. Fund managers are among the most educated and intelligent people on the planet. Think: top grades, brilliant jobs, super high salaries, proud parents; so how, you might ask, can it possibly be that year in, year out, a spreadsheet effectively outperforms these obvious successes?.The short answer might be that it isn't true. A recent paper from Steven Holden at Copley Fund Research Ltd. makes the point that the word active can cover a range of strategies – some fairly indistinguishable from passive strategies and some wildly different. So if you want to figure out the truth about performance, you need to divide them into the genuinely active, the sort of active and the not very active at all..The simplest method is look at their "active share" – the percentage of their portfolios that is different from the indexes they are judged against. If that is below 60% the funds can be considered low active; 60 to 75% is medium active, 75%-plus is high active. Look at only the last, the genuinely active, and the picture, in the UK at least, changes completely. High-active funds have outperformed their lower active share peers (after fees), says Holden. "They have also outperformed a passive ETF tracking the FTSE All Share. Since April 2012, high-active share funds have returned 164% on average, compared to 131.6% for low-active share, 126.2% for medium active share, and 134.5% for the benchmark FTSE All Share ETF.".There are a few caveats to all this. The outperformance from high active doesn't come every year – 2022 was a very nasty period for high active, something that still weighs on their three-year performance. It is also worth remembering that hidden within the averages will be some massive outperformers and a few total nightmares; other research into high active funds shows more volatility and sharper corrections than the average fund. The research might also not carry over to other markets: It is famously harder to outperform in the super-concentrated and well-covered US market than in the much-neglected UK market. AJ Bell numbers suggest that over the last 10 years, 42% of all UK funds that call themselves active have outperformed. In the US, only 22% have managed the same..Finally, being low active – or almost passive – isn't necessarily a problem. Twenty years ago, a large number of funds called themselves active and charged active-style fees – but were actually closet trackers. That was dishonest. Lots of today's low-active funds are designed to be that way – they are "enhanced index or "beta plus," specifically aiming not to stray too far from the index. I'm not sure why you'd want that over a plain-old passive fund, but it isn't dishonest. We can consider that an improvement of sorts..Active-share numbers don't give all the answers. Far from it. But Holden's research should give hope to the industry – all those qualifications were not for nothing. It should also give hope to investors trying to choose investments. You might keep being told there is no hope of long-term outperformance with active funds. But start by choosing one run by a manager who cares more for making you absolute returns than hugging a benchmark, and there is..Read also:.🔒 Why UK "non-dom" wealth exodus concerns may be overstated: Matthew BrookerSpeedy SA bricklayers, who triple British output, now in high demand in the UK – Saskia Johnston Sable International🔒 Billionaire Paul Marshall buys Spectator, boosts Tory influence on UK media.© 2024 Bloomberg L.P.

Active vs. Passive investing: The hidden performance of UK funds – Somerset Webb

Related Stories