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17th October 2018

Round one: passive versus active

Multi-asset funds are becoming a popular solution as investors look to diversify their holdings and invest across several asset classes in one fund wrapper. 

But should advisers’ clients invest in an actively managed or a passively managed multi-asset fund? That can be a difficult decision to make.

Typically, clients may favour passive funds for their lower charges, but advisers should be able to help them understand which type of multi-asset fund best suits their needs.

The active versus passive debate has been bubbling away for several years, as providers of passively managed funds continue to cut costs, creating a highly competitive industry.

Meanwhile, advocates of active funds argue these types of funds tend to outperform the benchmark, as experienced fund managers actively choose holdings for their funds.

Costs count

James Penny, senior investment manager for Tam Asset Management, says: “Diversification is key in today’s markets and unconstrained multi-asset funds should be among some of the most diversified product ranges available to investors who want to get exposure to the best opportunities around the globe.”

Mr Penny adds: “That goes for both passive and active multi-asset funds, because while a passive investment is fixed in terms of the scope of what it owns, there are thousands of passives representing all facets of the investment world. A multi-asset fund can use this to construct an active investment approach to the market, which sees the active sum of the portfolio being greater than its passive parts.”

One of the biggest potential advantages of investing in a passive multi-asset fund is the access to diversified investment opportunities at lower prices than actively managed funds.

Laith Khalaf, senior analyst at Hargreaves Lansdown, says: “Passive funds have the benefit of [being] low cost, whereas active funds at least give you the opportunity to outperform the markets you are investing in if you choose the right manager.”

But Mr Khalaf adds: “Passive fund returns will be dominated by asset allocation, which is more of an art than a science, so we prefer active multi-asset funds that also get driven by stock selection, in case the manager gets their asset allocation calls wrong.”

Key Points

  • There are passive and active multi-asset funds available to clients.
  • Passive multi-asset strategies are typically lower in cost.
  • Many favour active multi-asset for its ability to outperform.

    A multi-asset fund is a combination of asset classes, such as equities, bonds, property and other alternative assets. The types of asset classes and asset allocation will vary according to the investor’s risk appetite.

    Mark Shields, investment director for the multi-asset team at Brooks Macdonald, says the benefits of multi-asset passive investment strategies include easier asset allocation and diversification, in addition to lower charges.

Mr Shields also notes that passive multi-asset investment strategies typically reduce the risk of human error or underperformance against a given benchmark.

As active funds offer opportunities to beat benchmarks, it means they “allow top-rated fund managers, who have been able to deliver such outperformance consistently, to charge higher fees for their services. For this reason, it is important for investors who wish to use active managers to be able to identify which are most likely to perform well”, says Mr Shields.

Popular multi-asset funds

According to the Investment Association, during the first six months of 2018 there have been net retail inflows of £4.9bn into mixed asset funds.

Mr Penny of Tam Asset Management says: “Multi-asset active funds, like Jupiter Merlin, have always grabbed headlines for retail investors, but there are many multi-asset funds with a very colourful array of investment strategies to choose from.”

Peter Westaway, head of the investment strategy group, Europe, for Vanguard Asset Management, says its LifeStrategy multi-asset funds, which are based on a passive investment strategy, have been most popular with its clients.

The LifeStrategy has five risk-adjusted passive funds: 100 per cent, 80 per cent, 60 per cent, 40 per cent and 20 per cent equities.

“Each fund has between 6,000 and 20,000 underlying holdings, helping to reduce risk. We then regularly rebalance the portfolio to the target asset allocation,” explains Mr Westaway.

Mr Khalaf says the actively managed Newton Real Return, Schroder Managed Balanced and Pyrford Global Total Return multi-asset funds are most popular with Hargreaves Lansdown’s clients.


What should advisers and their clients avoid when investing in multi-asset portfolios?

Mr Westaway says: “The higher the cost barrier, the greater the challenge in delivering positive net returns. Investors should be mindful of this when selecting multi-asset funds, or indeed any funds.”

“Funds with a short-term track record [are funds to avoid], which is quite a few for the moment, given the popularity of the strategy is relatively new,” says Mr Khalaf.

Mr Penny points out the most popular funds may not be the best ones. 

“Just because one multi-asset specialist runs a large client book, it doesn’t make them the default best or safest choice for new investors,” says Mr Penny.

If a strategy cannot be explained to a client, Mr Penny says he won't rely on it to make money.  

He continues: “Generally speaking, any multi-asset funds with an investment strategy where it’s hard to ascertain exactly how they generate their returns is a red flag to us. Usually this red flag goes hand-in-hand with another, which is high fees. 

“Despite fees coming under pressure, there are some managers who still charge outside of the industry average for these complex strategies.”

Further to fall?

While active funds have the potential to deliver higher returns to clients, many in the industry believe passive multi-asset fund charges are likely to fall further.

Mr Westaway says: “In theory, the costs of the multi-asset funds will increase in January as the underlying funds held within the portfolios report additional costs such as transactions.”

However, this is still a bit confused as there does not seem to be a consistent method by which transaction costs are calculated. "Additionally we have seen a number of our funds, especially the more expensive ones, create new share classes with lower costs, which has moved the overall cost of our multi-asset funds lower,” Mr Westaway adds.

Mr Penny expects the price of multi-asset funds, especially those which are actively managed, to decrease in the coming months due to competition from passive managers.

“The asset management industry is having to really sing for its supper and I don’t see that easing up as we move into the next economic cycle,” he explains.

Moreover, the question of costs is going to continue.

Mr Penny adds: “This new era of enhanced communication and access to unprecedented amounts of data is only going to put more pressure on managers to account for every penny they charge.”

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