That is because most highly-rated managers tend to build up a strong track record with a smaller pool of assets. However, when more and more investors recognise those strong returns it can cause inflows to pour into their portfolios which, if remained unchecked, can mean the manager loses the flexibility which helped them outperform in the first place.
Fund size and capacity issues are topics FE Trustnet has written about on a number of occasions over the last year or so, but in this series of articles we come at the subject from a slightly different angle.
Instead of the highlighting funds that may have already grown too big in terms of their assets under management (AUM), we ask the experts which top performing funds they think are currently at a manageable size, but if inflows continue at their current rate could be hit with capacity constraints in the not-too-distant future.
While investors shouldn’t necessarily sell these funds, the experts say they should keep a close eye on their AUMs over the coming years.
CF Miton UK Value Opportunities
Equilibrium’s Mike Deverell is a big fan of George Godber and Georgina Hamilton’s CF Miton UK Value Opportunities fund and uses it across a variety of client portfolios due to the managers’ bottom-up value approach to the UK equity market.
However, he says he will be watching the size of the fund closely as its decent, albeit short, track record has meant the fund has become increasingly popular with investors.
According to FE Analytics, the fund has been the seventh best performer in the highly competitive IMA UK All Companies sector since its launch in March 2013. It has returned 26.13 per cent, which is nearly double the gain of the FTSE All Share.
Performance of fund versus sector and index since Mar 2013
Source: FE Analytics
The managers’ well-defined process and track record has meant the fund is already viewed as an alternative to some of the more established names in the sector, such as M&G Recovery and Schroder UK Opportunities.
CF Miton UK Value Opportunities currently only stands at £130m, though its AUM has doubled since June.
However, Miton has closed funds in the past – such as with Gervais Williams’ UK Multi Cap Income fund last year – and a spokesperson from the group said they are very mindful of the portfolio’s capacity.
“The fund is currently just over £130m having launched in March last year. We will review the fund’s capacity when we reach the £800m mark but do not see us managing more than £1.2bn in this strategy,” the spokesperson said.
They added: “Miton has a track record of managing capacity on funds to protect investors and the investment process.”
M&G Global Dividend
At £9.2bn, FE Alpha Manager Stuart Rhodes’ M&G Global Dividend fund is already one of the biggest equity funds in the IMA universe.
However, given that Rhodes can invest in any company in the world and only holds mega-cap stocks, most agree that he has a greater level of capacity than the large majority of his peers in regional sectors.
The portfolio sits in the top quartile of the IMA Global sector and beaten its MSCI AC World since its launch in July 2008 and over five years, though that relative performance has waned over more recent time frames.
Performance of fund versus sector and index since July 2008
Source: FE Analytics
Nevertheless, it is still a firm favourite among investors due to the manager’s focus on dividend growth and because it acts as a diversifier to UK funds.
Nevertheless, Hawksmoor’s Richard Scott had been a long-term backer of the fund, but given its ever increasing size – it was £4.5bn this time two years ago – he is concerned that Rhodes will struggle to repeat his long-term outperformance.
“Rhodes has done a great job over the years with his M&G Global Dividend fund, but part of his success has been driven by actively switching between different types of stock within his portfolio, so the growth in that fund may represent a challenge for him,” Scott said.
He has therefore sold the fund and bought Guinness Global Equity Income as an alternative.
Rhodes disputes this claim, however, pointing to the fact that 90 per cent of the portfolio is invested in companies that meet M&G’s liquidity threshold of £10m by average daily volume.
“Like all actively managed funds, Global Dividend’s capacity is not infinite, but the fund’s capacity is under constant review and we believe the fund can continue to grow in size without affecting the way we invest,” Rhodes said.
“We are often asked at what point scalability starts to become an issue but we are reluctant to give a specific figure because doing so could be potentially misleading. Capacity is a moving target because liquidity in the market will improve over time and there will be more investment opportunities arising as a result. It is impossible to predict how this will unfold.”
That’s not to say Rhodes won’t close the fund in the future it if he feels he cannot implement his process.
He added “Should the fund reach a size where the investment process is restricted, we have an obligation to inform clients and take appropriate action. In our view, we are still a very long way from that happening.”
TwentyFour Dynamic Bond
With the outlook for fixed income looking increasingly tricky as bond yields are expected to rise over the coming years, the large majority of fund experts say investors should focus on experienced bond managers who are only running a small pot of money.
IBOSS’s Chris Metcalfe, who is a firm believer that size does ultimately impact on performance, says the five crown-rated TwentyFour Dynamic Bond fund is a perfect example.
He recently started using the fund as an alternative to multi-billion pound funds in the IMA Sterling Strategic Bond sector such as M&G Optimal Income, Jupiter Strategic Bond and Fidelity Strategic Bond.
The fund weighs in at £590m and is run by Eoin Walsh and Gary Kirk who, combined, have more than 40 years of experience in credit markets. Their Dynamic Bond fund was launched in April 2010 and it has been top quartile performer in the sector over that time.
Performance of fund versus sector since April 2010
Source: FE Analytics
While he has been very pleased with its performance, Metcalfe says that it is on his radar of funds which could be becoming too big – given that it has doubled in size since April. However, he also points out that the managers have been in constant contact with him about possible capacity problems in the future.
This message was reiterated by a spokesperson at the group, who says it will look to close the fund in the next six to 12 months if inflows continue at their current rate.
The major reason for that, according to the spokesperson, is because the managers see their nimble size as a tool to generate outperformance as, unlike some of the behemoths in the sector, they can run a high conviction portfolio and add alpha on a stock by stock basis.
