long-only funds v ucits 3 funds

Long-only funds v UCITS 3 funds

Chair: Alastair BarrieSales Director, Henderson Global Investors

Tim Hale, Managing Director, Albion Strategic Consulting

Tony Stenning, Managing Director, Unit Trust Business, Blackrock UK Retail Group

© Albion Strategic Consulting 2008

Long only funds v UCITS III(Passive long only vs. less constrained active management)

PFS – 11th November 2008

Tim HaleManaging Director

Albion Strategic Consulting

© Albion Strategic Consulting 2008© Albion Strategic Consulting 2008

What are we really talking about here?

A fundamental issue…

Does active managementwork?

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YES

UCITS IIIUnfettered scope•Shorting•Derivatives•Leverage

NO

UCITS IIIMore rope•Overcomplicated•More risk to manage•Skills required•Marketing driven•Bad for investors

© Albion Strategic Consulting 2008© Albion Strategic Consulting 2008 4

The false triumph of hope over reason

The tyranny of function…

Mr Active Manager

Active managers can hold cash in falling markets,

go short etc.

Indexing creates inefficiencies to be

exploited

Why accept certain failure, when you can beat the

markets?

You don’t want all that rubbish in

your portfolio!

Active managers win in inefficient markets

Index fund success is self-fulfilling


The challenges of active management

It’s not easy being an active manager

• An exceptional talent pool

• Markets are hard to forecast (efficient)

• They move quickly and with magnitude

• Active management is a zero-sum game

• After costs it is a loser’s game (by 2% to 3%)

• Alpha is often beta

• The evidence against it is compelling

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Markets are hard to forecast

Trying to time markets is a fool’s errand

– Little evidence of success– Only around 1.5% of UK equity fund managers exhibit skill-based success*

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1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 20071992

Emerging Market

UK Equity Market

UK Gilts

Int'l. Equity

Cash

UK Comm. Property

2008

?

?

?

?

?

?

Speculating

Emerging Market

UK Equity Market

Int'l. Equity

UK Comm. Property

UK Gilts

Cash

Long term

Investing

Data source: DFA Returns program, except UK property = IPD to 2006 and iShares UK property ETF returns 2007*Cuthbertson, Keith, Nitzsche, Dirk and O'Sullivan, Niall, "The Market Timing Ability of UK Equity Mutual Funds" (November 2006).


Success is not a question of market efficiency

Passive investment works in inefficient markets too– Percentage of active funds beaten by the index over 5 years (to Q1 2007)*

7277 78 82

72

8592

7281 83

61

0

25

50

75

100

* Standard & Poor’s – SPIVA Report

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You do the maths

Estimates of index fund out-performance of active management*– Monte Carlo analysis

• Assumes active costs of 2% (generous) and tracking error of 7% • Passive fund costs of 0.5% with 2% tracking error

* Analysis: Albion Strategic Consulting

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Skilful or lucky?

Skill or luck*- ‘added-value’ is similar to randomness less costs!

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* Carhart, Mark, (1997), On persistence in Mutual Funds, Journal of Finance (study of 1,302 US mutual funds)

Random bell curveManager alpha

frequency

Statistical significance

Bad managerspersist

Very few goodmanagers persist

Return vs.market


The evidence is compelling

The solution is obvious…

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Skill-based, persistent winners to 2005*

US equity fund managers (355) in 1970*

*John C. Bogle (2007), The Little Book of Common Sense Investing, John Wiley & Sons

“Don’t look for the needle,

buy the haystack!”John Bogle


The evidence is compelling

The solution is obvious…

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Skill-basedWinners*

*At 95% confidence level, excluding ‘false positives’.Cuthbertson, Keith, Nitzsche, Dirk and O'Sullivan, Niall,F alse Discoveries: Winners and Losers in Mutual Fund Performance(January 2008). Available at SSRN: http://ssrn.com/abstract=1093624

UK fund managers (675)


Picking and staying with managers

It is hard to run an active program

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Skill or luck?

Manager turnover costs

Underperformance decisions

Costs of decisions

Long-term client benefit?


Conclusion on UCITs III

The hype fails to be matched by the evidence…

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And finally – a thought to take away…

“Remember, we’re geeky smart guys who feel a sense of duty to protect grandma’s retirement money.

We’re not big on risk.

But we do quietly revel in the security that beneath our taped glasses we are quietly spanking everyone else’s portfolio.

Fast cars and hot models are not for us. Get over it.

We’re about wood-panelled station wagons and a nice, wholesome family that is secure and certain. Like our retirement, and the retirement account of our investors”

Jason Wiandt’s advice to the index fund industry 2007

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Albion Strategic Consulting

“Leaders in helping dynamic, owner-managed wealth management firms to build ground-breaking businesses”.

Contact detailsTim HaleManaging DirectorAlbion Strategic Consulting5 Charlotte MewsExeterEX2 4HA

(T): +44 1392 494141(M): + 44 7974 253604

(E): [email protected](W): www.albionstrategic.com

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Risk warningThis is a purely educational presentation to discuss some general investment related issues. It does not in any way shape or form constitute investment advice.

long-only funds v ucits 3 funds

Economy & Finance

active costs

uk fund managers

percentage of active

active management work

magnitude active management

active program skill

passive fund costs

usequity fund managers