Oh for the days of ‘Peter Beardsley’s International Football’ where the game’s somewhat limited artificial intelligence resulted in your computer-controlled opponents staggering aimlessly like 2am drunks. Any fool could win such a contest. For fund managers in recent years, beating the index benchmark hasn’t been much more difficult. In 2014, however, someone appears to have turned the difficulty level up to ‘brutal’.
So should investors be concerned that so many fund managers are lagging their respective indices this year? Of course they should. Fund managers love to eulogise their superior stock-picking abilities when things move in their favour; yet blame a myriad of external forces during weaker times.
At the time of writing, in 2014 the FTSE All Share has risen by 0.53 per cent versus the average fund in the IMA UK All Companies Sector which has lost 1.88 per cent.
Performance of sector and index in 2014
Source: FE Analytics
The index’s performance has been top quartile in 2014 – outstripping those of us who didn’t have the same level of exposure to the outperforming mega-cap space.
This contrasts markedly with the previous two years, when the average fund beat the All-Share by over 3 and 5 per cent respectively.
Performance of sector and index Jan 2012 – Jan 2014
Source: FE Analytics
This doesn’t mean that those invested with active fund managers should run for the hills just yet. After all, only three types of people can beat the index every year: the superhuman, the super-lucky, or the super-fraudulent.
While fund managers would have benefited from buying mega-cap, low beta stocks over the last six months, many of these companies could more accurately be described as ‘expensive but not so defensive’.
Instead of owning stocks that are overvalued, risk can be controlled by running higher than average cash levels. Such a strategy will result in a more esoteric portfolio but one which should produce superior returns over the longer-term.
The performance of the average manager relative to the index is potentially an indicator of extreme investor positioning. The divergence between the two had been at extreme levels for most of the last 12 months and a reversal was inevitable at some point.
Timing such a move, however, is incredibly difficult. The portfolios of active managers are inevitably going to look vastly different from the index and are therefore likely to underperform at certain points in the cycle. The task is to minimise that underperformance – an area where many of us could, and should, have done a better job.
Over time, however, the underperformance of mega-cap stocks will persist and truly active stock-picking funds should add considerable value.
When fate, and markets, seems to be conspiring against you, it is tempting to succumb and throw in the towel. This would be a mistake. Although there is a lot of noise in the current economic environment, with apparently contradictory data being issued on a daily basis, global growth does seem to be slowly recovering.
While the strength of sterling has weighed on many UK-listed stocks in the ongoing reporting season, with industrials being particularly affected, underlying results have been broadly robust.
The recent mid-cap sell-off means that many stocks are now trading at valuations that are increasingly appealing. Although active fund managers have taken a bit of a beating recently, the game isn’t over just yet.
Neil Veitch (pictured top of page one) is manager of the SVM UK Opportunities fund.
Performance of fund, sector and index over 5yrs
Source: FE Analytics
His fund is ahead of its IMA UK All Companies sector average and FTSE All Share benchmark over three, five and 10 year periods, but a mid-cap overweight has seen it fall behind over one year and year-to-date.
Veitch has run the fund since January 2006. SVM UK Opportunities has clean ongoing charges of 1.09 per cent.
Jamie Hooper, manager of AXA Framlington UK Growth, echoed Veitch’s comments last week, referring to the top end of the UK index as being full of ‘mega traps’ rather than mega caps.
“Mega caps may outperform once every six or seven years, and it could be that that happens this year. However, in general it’s not the place you want to be,” he said.
