Investors want a level playing field

by Rob Davies, Fund Manager

The Internet is fantastic; it enables anyone to find out virtually anything for almost nothing. There are downsides, such as Uncle Sam knowing more about you than you might like, but overall the Internet has democratised data. Probably its biggest single advantage is that it makes it much easier to research and compare products.

Nowhere is that more helpful than in financial services where the profusion of funds is almost overwhelming. Here the investor is helped enormously by a number of websites that collate the data and present it in a readily digestible form. Some are hosted by product providers and may not offer a complete overview of the market for commercial reasons. Leaving those aside these sites, and the press, offer a comprehensive review of the market, or do they?

There is now a subtle form of differentiation going on between active and passive funds. This different treatment makes it difficult to compare a passive fund with its active rivals. There are a number of sites that offer comparisons between funds. Citywire, for example, lists 254 active funds in the UK All Companies Sector while Trustnet records the total as 273 because it includes passives as well. That is close to the 270 members, both active and passive, that Morningstar has for the sector.

Trustnet benchmarks passive funds against the relevant index while active ones are compared to the UK All Companies Sector. In other words active funds are measured against their peers, i.e. net of costs, while passive ones are assessed against an index that is not hampered by charges and fees. Moreover, the site does not assign a quartile ranking to passive funds making it harder to see how they rank against competitors, active or passive.

Citywire says it does not include passive funds because it rates managers not funds. While that is a valid argument it does not make life easy for the investor. Leaving some funds out makes other look better in the league tables. Over the six months to end of July, for example, passive funds make up 9 of the top 20 best performing funds in the UK All Company Sector as their holdings in the larger blue chip companies have been favoured by a flat market in which value stocks have performed relatively well.

Over the last five years the stock market rally, driven largely by quantitative easing, has aided active funds that have tended to focus their attention on the mid-cap stocks that are more sensitive to a UK recovery than the blue chips at the top of the FTSE 100. This year profit warnings have taken the shine off a number of companies and the more highly rated stocks in the FTSE 250 had further to fall than larger and more conservatively valued blue chips. This has favoured passive funds at the expense of active funds.

That change in sentiment has highlighted the differences between active and passive funds and has demonstrated the difficulty in comparing the two approaches. Needless to say the advent of Smart Beta funds further complicates the issue.

As far as investors are concerned they simply want a level playing field so that they can make simple comparisons of all types of fund in the asset class, be they active, passive or smart beta. While it makes sense to compare index funds to their relevant benchmark it is also helpful to see how they perform against their active competitors. Comparison websites should facilitate this task, not make it difficult.