Given that a number of active managers have high ongoing charges and don’t even come close to beating their benchmark over the medium to long-term, the reaction is understandable – especially as investors can get access to much cheaper funds that replicate market returns.
Or do they? While there are plenty of active “dog” funds that have consistently underperformed, the same can be said of passives.
Yes, the likes of Vanguard have delivered the goods with minimal tracking error, but for every Vanguard tracker there is another that has fallen short of its benchmark by 10, 20 – even 40 percentage points over the long-term.
In this article, we highlight a selection of trackers that have returned much less than their chosen index, either because they are expensive, have a high tracking error – or both.
Halifax UK FTSE 100 Tracking
First on the list is the Halifax UK FTSE 100 Tracking fund, which is a considerably size at £1.2bn.
According to FE Analytics, investors who bought the tracker 10 years ago would now be sitting on a return of 81.46 per cent. However, its benchmark, the FTSE 100, has returned 122.96 per cent over that time.
Performance of fund vs index over 10yrs
Source: FE Analytics
Halifax UK FTSE 100 Index Tracking has a tracking error of 7.5 per cent over that time.
This represents the divergence between the price behaviour of a portfolio and the price behaviour of a benchmark.
Although it has a much shorter track record, by way of contrast, the Vanguard FTSE UK Equity Index fund has had a tracking error of 0.62 per cent since its launch in June 2009.
The Halifax tracker has also underperformed its benchmark by 15 percentage points over seven years, 10 percentage points over five years and 5 percentage points over three years.
Rob Gleeson (pictured), head of FE Research, says there are only two reasons why trackers would struggle; either they have poor replication strategy or they their charges are too high.
He says the Halifax fund has both.
“The reason why ETFs became so popular is because a lot of investors became dissatisfied with the available tracker funds because a number of them were sluggish and costly. This fund is an example of that,” he said.
“They don’t actively market the fund anymore, but it still has a lot of money in it. It is an old fashioned tracking fund with a poor replication strategy and has costs that are uncompetitive in the current market.”
Halifax were unavailable for comment.
The fund’s ongoing charges figure (OCF) is 1 per cent, which is higher than a lot of active funds.
Old Mutual UK Index
Sticking in the UK sector, Old Mutual UK Index is another passively managed fund which has fallen short of its stated objective over the long-term.
Though by no-means as big as the Halifax fund, the £180m fund has delivered a much lower return than the index it is trying to replicate.
The fund has returned 156.00 per cent since its launch in December 2002, underperforming its FTSE All Share benchmark by more than 40 percentage points in the process, with a tracking error of 7.87 per cent.
Performance of fund vs sector since Dec 2002
Source: FE Analytics
The fund has underperformed the index by 23 percentage points over 10 years and its tracking error over that time has been more than 8 per cent.
The returns of the fund have become much closer to the index more recently.
Old Mutual UK Index has underperformed the index by less than 2 percentage points over five years and less than 0.5 percentage points over three.
A spokesperson for Old Mutual says the reason why the returns have improved in recent years is because the group have changed their charging structure.
“It does appear that the fund was originally priced much higher and rebates were often provided. We believe this was competitive at the time. The fees have since been reduced, in 2009, and performance is much more in-line with the index over recent periods,” the spokesperson said.
The spokesperson adds that the stated tracking error doesn’t tell the whole picture, as the fund is priced at midday while the benchmark is priced at day-end.
Old Mutual UK Index has an OCF of 0.39 per cent.
L&G US Index
The US is a notoriously difficult market for active managers to outperform because, as the index is so well-researched, their ability to add value is severely hindered.
While a number of funds have outperformed, data from FE Analytics shows that the average fund in the IMA North America sector has failed to beat the S&P 500 over one, three, five, seven and 10 year periods.
Many investors go down the passive route for their US exposure as a result.
However, though trackers in the sector have attracted a lot of investors’ savings, some have failed in their task of mirroring the returns of the market.One example is the £2.6bn L&G Index fund.
According to FE Analytics, it has returned 128.45 per cent over 10 years, underperforming its FTSE USA index by 24.13 percentage points. Its tracking error has been over 8 per cent.
Although it isn’t its aim, it has beaten the IMA North America sector over that time.
Performance of fund vs index over 10yrs
Source: FE Analytics
Dan Attwood, proposition manager of retail index funds at L&G Investments, says there is one major reason why the fund has performed in this way.
“The retail unit class was previously available to advisers in the pre-RDR market. The fund paid a trail commission; therefore, the management charges were higher,” Attwood explained.
“This unit class has now become a legacy unit class in the intermediary market following the ban on commission and advisers can no longer buy it. This should not be compared with other providers’ clean unit classes.”
“The “I” unit class is the clean unit class that can be compared to competitors’ clean unit classes and is available for intermediaries to buy on all major fund platforms.”
While the “I” class has performed much better, our data shows it has still lagged the index by 14 percentage points over 10 years. L&G US Index’s OCF is 0.18 per cent.
