Five lessons on fund management from M&G

As journalists, analysts and investors we can be highly critical of managers. From the outside their decisions can seem foolish, cowardly or even dishonest at times, as they behave in ways we think are irrational.

Thanks to M&G and trainer Laura F Smith, I was given an insight into the psychological pressures on a manager as he tries to balance a portfolio.

A simulation exercise teamed me with another journalist in a competition with our peers to see who could make the most money. 

Here are five of the most important lessons I learned: 


The power of benchmarks

We are used to hearing from certain managers and professionals that aiming at a benchmark prevents the fund from doing the best for investors – and that managers who chase this target are hiding in the pack, happy to lose 2 per cent if the benchmark loses three. 

It is easy as an onlooker to feel scornful towards managers who behave in that way, but even within the boundaries of a competition with imaginary money, it became clear to me that the fear of being exposed by poor decisions is extremely powerful. 

The sheer amount of information available on the economy, on different sectors within it and on particular companies is mind-boggling, and the idea investors could ever feel totally confident that their conclusions are correct seems highly dubious. 

Having seen a huge bet on Government bonds leave our team nursing losses of 60 per cent after the first quarter while those who stuck closer to the benchmark lost just 10 per cent, I was a lot keener not to stick my neck out in the next quarter. 

Having seen what can happen, these days I’d be far more suspicious of a manager who was totally convinced his view of the world was right than of a manager who only went slightly over- or underweight a benchmark to soften the effect of his decisions. 


The importance of diversification

The same terrible decision underlined another element I hadn’t fully appreciated – how your losses are magnified by not holding the right investment as well as by holding the wrong one. 

Putting all your money in something means not holding something else, and the consequences can be extreme.

The next time managers and IFAs talk about the importance of diversification, I’ll be listening more closely; I used to think it was a bit of an excuse for not trusting your judgement, but no longer. 


Chasing returns

Having made a disastrous start to the competition, losing more than half of our pretend money, we proceeded to do what any gambler would and looked for a big bet to win it back on. This is probably not the best way to manage other people’s money. 

Our experience underlined how hard it would be to make the money back anyway. Having lost 60 per cent, we would have had to make 150 per cent back in order to break even on our poor pensioners’ original investments – before we’d even factored in the charges for our expertise. 

It was at this point that I started to think that I didn’t want to be a fund manager.


The power of sticky money

In real life investors would have already begun to haul out their money and look for other options – and people like me would be warning others off investing. 

For a fund manager this must be absolutely disastrous, as with the funds at my disposal falling I would have had to sell out of positions I believed in, which would severely limit me in the new positions I could take up. 

A snowball effect would be hard to avoid and my fund would be facing extinction – and all from one terrible asset-allocation decision. 

Even in the good times money coming in and out must be a serious problem for managers and M&G made me realise how powerless they are to prevent this. 

Sales and marketing techniques can seem like dark arts used to try and pull the wool over investors' eyes, but in reality they are crucial to keeping a fund running smoothly. 


Charges can be good

Another way a fund house looks to keep money invested in its portfolios is through exit fees, and though many readers are likely to disagree, I have a greater appreciation of a manager’s need to charge customers. 

In an environment where providers are competing on price and charges are being driven low by a poor investment climate, fewer managers these days are able to draw on exit charges to control outflows. While these clearly benefit fund houses, they also protect those who are already invested from mass redemptions and, as a result, increased volatility. 

I may be going a little too far even for myself here, and I’m starting to suspect I’m suffering a bout of Stockholm syndrome. That said, it’s clear to me that the job of a fund manager is far harder than I previously appreciated.