Passive funds have boomed in popularity on platforms but, with the FSA sounding a warning on their use by IFAs, what's the best way to utilise them?
Each month, data from platforms suggests a new investment trend: a boost for fixed income, or burgeoning interest in North America, perhaps. While these tend to come and go, one continued to rise in popularity throughout 2012: investing in passive and index funds.
Platforms have been scrambling to react to adviser demand for low-cost alternatives to active funds.
Passive funds dominated Nucleus’ inflows leaderboard for 2012, with three of the top five coming from index trackers Vanguard, Dimensional and Legal & General.
The pricing clarity provided by the Retail Distribution Review (RDR) will continue to chip away at the “pseudo-cartel” run by active managers, said CEO David Ferguson. There is no particular reason, he added, that active management should come in at 75bps: “You have to be performing 50bps better than a tracker, which a lot of managers can’t do.”
On Axa Elevate, Architas’ passive funds have proven markedly more popular than its active and blended solutions, taking in 60% of all inflows in the range.
“Previously it was about shooting the lights out, but the language has changed among advisers,” said business development director Shaun Sandiford.
Passives, however, are not without their problems. Tracker funds are more exposed to market volatility, as the Financial Services Authority (FSA) has been keen to remind advisers recently.
The regulator warned advisers against a passive-only approach in its latest RDR newsletter, saying while passive investments from a range of sectors may be suitable for a large number of a particular firm’s customers, “the firm must ensure that the recommended passive investment is suitable for each individual client and not assume that passive investments are suitable for all of its clients”.
It is a clear signal the FSA has found evidence of some firms looking to adopt a passive-only approach – and that it is concerned about the trend.
But the same could be said of firms that refuse to consider passives altogether. Much has been made of the lack of investment trust options on platform giants FundsNetwork, Cofunds and Skandia. But the absence of passives is equally important, Ferguson said. “If a platform doesn’t offer them, I can’t see how [an IFA] can maintain independent status,” he said.
For Sandiford, a platform lacking trackers is “like being made to play golf with half the clubs”. Anecdotally, a ‘core and satellite’ investment approach – where advisers place large chunks of portfolios in passive funds, then rely on small aggressive holdings to generate ‘alpha’ returns – is growing in popularity, he said.
Discretionary fund manager (DFM) London & Capital recently increased the risk at the higher end of its suite of ten model portfolios – a result of adviser demand, according to managing director Richard Leigh.
Ferguson said Nucleus had seen the rise of “extremely aggressive DFMs” listing on the platform, as well as advisers using equities as their “satellite”.
But, however advisers decide to differentiate client portfolios, the popularity of passives looks set to continue into 2013.
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