There is no denying that one of the most common themes in this industry is that the best performing funds often become the most popular as investors try to gain exposure to a manager’s strong past returns.
However, at the same time, size is often referred to as the enemy of a fund manager’s future performance. The reason for this is simple, as there is always the concern that as a manager takes on more and more money they have to change their top-performing process to cope with the inflows.
As a result, Hawksmoor’s Ben Conway says he wished every one of his favoured managers were running a smaller pot of money than they are today.
“I think it is fair to say that all other things being equal, from a purely selfish point of view, you’d rather have a manager running a smaller pot of money than a large pot (but not so small that the OCF is prohibitively high),” he said.
Of course, there is little evidence to suggest that fund size is the big danger many believe it to be given that AUMs have never been as large as they are today. There are also managers, such as M&G’s Richard Woolnough and the team at Standard Life GARS, who have shown so far that they are very capable of running billions and billions of pounds.
Nevertheless, Premier’s Simon Evan-Cook (who holds fund size close to his heart) says there are a number of top managers who he wished would run a smaller fund due to the quality of their process.
While he says they won’t necessarily underperform because of the amount of money they currently run, the list of managers below are those that he and fellow experts would never sell if they were always in charge of a small fund and didn’t have to deal with inflows.
First on the list is Tom Dobell, who heads up the £4.5bn M&G Recovery fund.
As FE Trustnet recently highlighted, following a decades’ worth of outperformance relative to both his peers in the IA UK All Companies sector and the FTSE All Share, Dobell has gone through a very tough period.
According to FE Analytics, it has underperformed against the sector and FTSE All Share in four out of the last five calendar years and is bottom quartile and down against the index so far in 2015. It means that since January 2011, M&G Recovery has made just 9 per cent while the wider UK market is up 40 per cent.
Performance of fund versus sector and index since 2011
Source: FE Analytics
A number of reasons have been given for that underperformance. Firstly, Dobell’s focus on out of favour companies, the muted M&A environment and his high exposure to commodity-related stocks have all hurt performance.
However, Evan-Cook says the size of the fund (which peaked at £8bn three years ago) has compounded those issues. He says, however, that Dobell is a top manager – as shown by his first 10 years on the fund – and therefore if he were running a smaller portfolio, he would certainly buy in.
Source: FE Analytics
“Even at £4.5bn we aren’t comfortable and, given the choice, we would much rather choose Tom Dobell running a £1bn fund.”
“When you are a deep value investor (like Dobell) you are very limited in terms of size because you can’t take those big positions in smaller companies. Twelve years ago, this fund was roughly 50 per cent in small and micro-caps and today that figure is 20 per cent.”
“M&G have said size hasn’t been an issue, but the likes of Warren Buffett have been very open about this and said that ultimately size is the enemy of performance. It has been a tough time for ‘value’, but if you are a manager who can pick opportunities without being hindered by size, you can transcend that headwind against your style.”
Next on the list is income guru Neil Woodford.
Evan-Cook says that Woodford showed he can run a huge amount of money during his time at Invesco Perpetual (he was running more than £25bn across his three open-ended income funds at their peak in mid-2013) but that his track record would be even better if he hadn’t been in charge of a behemoth during his final years.
“Neil Woodford is a great example in the UK. I’d stress that this isn’t me saying his fund is too big to invest in – I don’t think it is – it’s just that I think the returns he’d generate running a sub £1bn would far outstrip the returns he’ll make running a fund that’s a multiple of that,” Evan-Cook said.
“It’s important to stress that size takes a gradual toll on performance – it’s not a single point where everything before was great, and everything after will be poor.”
Following his stellar 26 year track record at Invesco Perpetual, Woodford has got off to a flying start with his new Equity Income fund. Since its launch in June last year, it has been the best performing IA UK Equity Income portfolio with returns that are nearly six times greater than the FTSE All Share’s gains.
Performance of fund versus sector and index since launch
Source: FE Analytics
With Woodford’s reputation and his recent performance, the inevitable inflows have poured in meaning that at £6.5bn, CF Woodford Equity Income is now larger than the manager’s old Invesco Perpetual Income fund.
Nevertheless, many experts such as Apollo’s Ryan Hughes, thinks CF Woodford Equity Income has plenty of room to grow.
“While I think it is clear that Neil doesn’t want to manage as much as he did at Invesco, there is still plenty of scale left in his approach,” Hughes said.
Tom Naughton
Tom Naughton may not be one of the best known managers in the industry (largely because his fund sits outside of the Investment Association universe) but he has been a stellar performer nonetheless.
According to FE Analytics, his $870m Prusik Asian Equity Income fund has delivered a return which is more than 12 times greater than its MSCI AC Asia Pacific ex Japan benchmark since its launch in December 2010. In fact, it has beaten the best performing IA Asia Pacific ex Japan fund (First State Asia Pacific Sustainability) by close to 50 percentage points over that time.
Performance of fund versus sector and index since launch
Source: FE Analytics
However, in order to protect existing investors, Prusik took the decision to close the five crown-rated fund in December 2012.
Ben Conway says he was happy that the group were proactive, but is frustrated he can’t add to his holding given Naughton’s highly-rated ability.
“To that end, the very best managers hard close way below what they could raise. Tom Naughton at Prusik (Asian Equity Income) is a great example. We haven’t been able to add to our positions for some time and as our own funds have grown, the weighting of this fund in them has fallen,” Conway said.
Rob Morgan, pensions and investment analyst at Charles Stanley Direct, says the issue of size is very important in relation to bond funds given the uncertain outlook for fixed income and the diminishing levels of liquidity.
He says that while there are some very good bond fund managers available to UK investors, there are a number (such as FE Alpha Manager Ariel Bezalel) who would be able to perform even better if they were in charge of a smaller AUM.
“I think this is particularly pertinent with regard to bond funds. It would be nice to see Richard Woolnough and the team at M&G running a smaller, flexible fund where stock picking would make more of an impact, for example,” Morgan said.
“I also think this is increasingly the case for Ariel Bezalel on Jupiter Strategic Bond. It is still a high quality fund, and I don’t doubt his ability to add value even with a larger fund due to his excellent reading of the economic picture, but the growth in size has likely constrained his ability to take meaningful positions in more esoteric areas.”
While Bezalel’s Jupiter Strategic Bond fund has spiked from £1bn to £2.6bn over the past six years, it hasn’t seemed to have affected performance as the fund is still outperforming over that time.
It is also understandable why the fund has proven to be so popular, given its longer term track record.
Performance of fund versus sector and index since launch
Source: FE Analytics
FE data shows it has been the third best performing portfolio in the IA Sterling Strategic Bond sector since its launch in June 2008 with returns of 87.33 per cent, beating its iBoxx UK Sterling Non-Gilts All Maturities index by 23 percentage points in the process.
The fund, which yields 4.2 per cent, has also outperformed its peers in five of the last six calendar years.
