One of the major arguments for taking a passive approach to investing is that you can't predict future performance, but you can predict fees. Numerous studies have shown the effect of charges on future returns compound in the same way your income does and that paying an extra couple of basis points a year can have a significant impact on your wealth over the long term.
This is what often gives passive funds the edge over their actively managed counterparts with a single layer of higher charges – which is why multi-manager funds, which come with a double layer of charges, regularly draw so much criticism in the comments section of this website.
So, if a fund had a triple layer of fees, it would be natural to assume that all these additional fees would guarantee underperformance. However, this is not necessarily the case.
The Unicorn Mastertrust, for example, invests in investment companies and among its top-10 holdings are trusts such as Foreign & Colonial, Alliance Trust and British Empire Trust which themselves invest in open- and closed-ended funds.
However, the Unicorn fund has made 191.42 per cent since its FE Alpha Manager Peter Walls took charge in September 2008, compared with gains of 117.66 per cent from its FTSE 350 Equity Investment Instruments benchmark and 90.41 per cent from its IA Flexible Investment sector. The FTSE All Share made 101.71 per cent over this time.
Performance of fund vs sector and indices over manager tenure
Source: FE Analytics
Walls (pictured) said that looking ahead to the implementation of PRIIPs (Packaged Retail and Insurance-based Investment Products) regulation on OEICs, it is likely to show him as being expensive. However, while he accepted that charges are important and can have a major impact on long term returns, he takes the view that you can find very poorly performing funds with very low charges and vice versa.
“People will run projections on the basis of the reduction in yield numbers [a figure that shows the effect total charges applied to a vehicle will have on its potential rate of growth] on the underlying funds as well as my own,” he said, “and they will say ‘why on earth are you investing in this when you are constantly running uphill? Go and buy an ETF’. But that's entirely up to the buyer.
“I think my role really is to try and build a balanced portfolio offering global exposure using the best funds that I can find in my universe.”
Some people may still ask why this fund holds trusts that own other investment vehicles, since searching for the best trusts is surely what they pay the manager for, without him adding yet another level of fees by outsourcing this decision to someone else.
Walls said that this is a good question and is one that has been asked many times before.
“I am willing to invest in situations where I'm getting access to things that I can't access elsewhere,” the manager explained.
“In the case of British Empire, in many cases I'm getting exposure to highly specialised funds which I wouldn't generally hold directly myself and a management team that is inclined to ensure good corporate governance, alignment of interests between investors and the fund and, in some cases, M&A activity as a route to try and generate some alpha.
“In the case of Alliance Trust, I am getting that high level of liquidity when I need it but I am also getting exposure to a range of managers who are putting their best ideas into that portfolio which I wouldn't be able to get anywhere else.
“In the case of Foreign & Colonial, I have the argument for liquidity and a bit of unquoted exposure, and that's about it.”
He added: “So the price that is paid for that is obviously a double or a triple layer of fees and ultimately you have to judge my performance which is clearly after suffering those fees including my own.”
Data from FE Analytics shows that Unicorn Mastertrust made less than the 197.23 per cent return of Alliance Trust over Walls’ tenure, but more than Foreign & Colonial’s 173.73 per cent and British Empire’s 94.26 per cent. Its volatility score over this time is significantly lower than those of these trusts as well as its benchmark and the FTSE All Share.
Performance of fund vs trusts over manager tenure
Source: FE Analytics
The reason that liquidity is so important to Walls is that playing discount volatility is one of his most important techniques for adding value. However, he said that while he has spent more time “staring at the screens and watching the VIX” during the renewed bout of volatility over the past few weeks, he has found bargains hard to come by. One situation that has piqued his interest though is Woodford Patient Capital.
“It is now on a 12.5 per cent discount and is trading at 75p,” he continued. “The discount on Mark Barnett's Edinburgh Investment Trust also seems a lot wider than it has been and those poor chaps seem to be getting hit from all angles really.
“Woodford’s portfolio is 65 per cent unquoted because of the falls in the quoted portfolio and I am pretty sure there will be some binary outcomes. But if you look at a listed P/E portfolio, a 12 per cent discount wouldn't be unusual. It might in some cases be quite expensive. So again it is something I am going to monitor but it isn't something I have been inclined to initiate a position in quite yet.”
“You know, it is a question for me of eking out that little bit more discount value. I feel like one of those judges on The Voice – my hand is hovering above the button, thinking ‘shall I hit it or not?’”