Don't let your savings turn into dust

Billions are being lost to investors through poorly managed funds, says Nick Clayton
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The Independent Online

Investors are losing billions of pounds by leaving their money in poorly performing funds, called "dogs" or "duds" by financial advisors. Two reports published this week name and shame the worst offenders, recommending, in most cases, that customers cut their losses and move their cash elsewhere.

Investors are losing billions of pounds by leaving their money in poorly performing funds, called "dogs" or "duds" by financial advisors. Two reports published this week name and shame the worst offenders, recommending, in most cases, that customers cut their losses and move their cash elsewhere.

The funds involved represent some of the biggest names in the financial services industry and are held by thousands of small investors. In many cases they have been losing money for years with apparently little chance of a turnaround.

The independent financial adviser (IFA) Dennehy, Weller & Co examined the performance over the last three years of the 56 largest UK equity funds. These each have assets of more than £400m and are popular with ordinary investors as they can be held within a tax-free Isa.

During the period covered by the study, one of the main London Stock Exchange indicators, the FTSE All-Share Index, has fallen by 13.9 per cent. Half the funds measured have done worse than this, underperforming the index substantially, often on a regular basis.

The top 10 duds ( see table, opposite) are made up of UK growth funds run by Canada Life, Prudential, Jupiter and Abbey National. Then there are UK equity funds from Royal London, Scottish Life, Schroder and Henderson. The other two on the list are Family Assurance's Asset Trust and Artemis Capital. Each of these funds has lost more than 20 per cent of its value since July 2001. They have also failed to give a better return than the FTSE All-Share index for at least two of the past three years.

Between them these 10 funds have £7bn of assets, meaning they have lost £1.4bn of investors' money. Abbey and Scottish Life's funds are worth more than £1bn each. So are the CIS UK Growth and Threadneedle UK Growth funds, which underperformed the index, but not quite badly enough to make the top 10 list of shame.

"Many of these are sold by high street banks and building societies. They're letting the people down who put their savings in them," said Brian Dennehy, one of the report's auth- ors. "Investors shouldn't put up with this sort of poor performance. There are a number of big funds that perform well and it's easy to spot them."

He lists the top 10 UK growth and income unit trusts which have made a positive return over the past three years. Best is Schroder UK Mid-250 which has shown a return of 17.3 per cent. Special situations funds run by Fidelity and Artemis are in second and fourth place. Invesco Perpetual has three funds in the list - growth, income and higher income. The others are Liontrust, Credit Suisse, Schroder and Newton income funds.

It may come as a surprise to see "tracker funds" included in the list of dud performers. Since the 1990s, when trackers first became popular in the UK, received wisdom has been that they do better over time than actively managed funds.

A tracker is designed to follow the overall level of an index. Generally in the UK this will either be the FTSE 100 index of the top 100 listed companies or the FTSE All-Share, which covers the top 800 stocks and shares on the London Stock Exchange.

In an ideal world, the tracker would be made up of a portfolio of shares in every company representing their value on the index. In reality that would be prohibitively expensive because of the amount of share trading that would be necessary to retain the exact balance of shares within the portfolio. Instead, most trackers use mathematical modelling techniques to ensure the fund is broadly in balance with the index it is following.

One of the main advantages of trackers is their relatively low fees in comparison with managed funds. Managed funds are based on stocks picked by a fund manager, backed up by a research department. Trackers are effectively automated and therefore require less staffing and lower levels of skill.

Supporters of trackers say that, although fund managers will have good years when they pick the right stocks, over time trackers will outperform managed funds.

The figures from Dennehy Weller & Co, however, paint a bleak picture of trackers' current performance. Of the 56 large managed funds, 28 have outperformed the trackers. And over 10 years, nine of the 10 best performing large funds outperformed the index more often than not (after annual charges).

Alan Steel, of the leading Scottish IFA Alan Steel Asset Management says: "The successful way to invest is to buy cheap and sell high. A tracker does exactly the opposite."

He added that now is a particularly bad time to put money into trackers. "The index is dominated by declining old- economy companies. A lot of the new growth companies are not represented in the FTSE 100."

It should be said that trackers will always automatically underperform their chosen index. That is because management fees are deducted after the tracker has matched the index.

But, despite widespread condemnation by IFAs, trackers do have powerful supporters. The most recent figures from the investment performance consultant WM Company show that managed funds did a little better overall than trackers last year. It said, however, that over time the two achieved broadly similar results on average.

"Over the long term, the average tracker should outperform the average actively managed trust as charges are lower," said WM's head of research, Alastair MacDougall. "But some investors will always benefit from active management. The dilemma facing the individual investor is selecting a manager. The performances of actively managed trusts are, with few exceptions, inconsistent. The chance of choosing an active manager who will outperform over the long-term has to be offset against the relative predictability of a tracker trust."

Of the 44 actively managed trusts with a 20-year performance history, eight out-performed the FTSE All-Share index, highlighting the difficulty of identifying which trusts will be the long-term winners.

Another report, Spot the Dog, compiled by the IFA Bestinvest, takes a broader look at 956 UK-registered, actively managed funds. "Dogs" are defined as funds that have underperformed their benchmark index for each of the last three years and cumulatively underperformed by at least 10 per cent over the period. The latter criterion weeds out tracker funds.

The figures are compiled by Bestinvest twice yearly and appear to show an improvement since the last report in January. There are now 93 "dogs" with a combined value of £10bn compared to 133 worth £15.4bn at the start of the year.

Bestinvest's managing director, John Spiers, said: "Market conditions over the last 15 months have offered some reprieve to many fund managers, so it is not particularly surprising to see the number of 'dogs' fall significantly compared to January. However this does mean that funds which failed to perform in these conditions really require special scrutiny."

The company with the largest value of duds under management for the third half-year in a row is Scottish Widows with £1.6bn spread across 10 "dog" funds. Henderson is second with £1.07bn, followed by M&G and Prudential with £860m, Fidelity £840m, HBOS's Insight £810m and AXA Sun Life £590m. "It is disappointing to see Scottish Widows and Henderson yet again feature prominently: it suggests both groups are in need of an overhaul if they are to improve matters," said Mr Spiers.

Generally these changes take the form of a new fund manager, often recruited from a more successful competitor. Mr Spiers says the top fund managers tend to change jobs every three to four years. Past achievements are not a guarantee for the future, as success often brings more funds and more responsibility, both of which can be difficult to manage.

"Of the 93 'dogs' featured, 64 have had a manager change in the last three years with 23 of those occurring in the last year," he said. "This should be positive news for investors, but it seems some of these managers are struggling to turn around performance. Alan Trigle took the reins of Credit Suisse European in April 2003 and has underperformed 95 per cent of the funds in that sector over the last year."

The disparity in performance between funds can be confusing for investors. Unsurprisingly, IFAs recommend that people come to them for guidance. "We're the people who live and die by the quality of our investment advice," said Mr Dennehy.

Bestinvest's investment adviser, Justin Modray, added: "'Dog' funds are not an automatic sell, but investors must satisfy themselves that any 'dogs' they own are worth holding and should check their portfolio balance is appropriate to their needs. Poor asset allocation is often overlooked, but can seriously undermine a portfolio's performance potential and leave an investor exposed to far higher risk than they may realise.

"When transferring a 'dog' elsewhere, rather than simply move to a similar type of fund, individuals should consider the areas which will best suit their portfolio. This might, for example, mean transferring a UK 'dog' to an overseas, smaller company or natural resources fund to improve portfolio balance," Mr Modray said.

HOW TO SPOT A DOG

No fund can guarantee success. As a representative of industry regulator the Financial Services Authority comments: "Performance isn't regulated. It is up to the individual investor to make their own decision as to where they are going to invest."

But there are ways to reduce your chances of being to be stuck with your money in a dud fund:

* Do your research. Look at the past performance of funds using websites such as www.morningstar.co.uk. Although the past is no guarantee for the future, the worst duds have a record of failure going back years.

* Don't just put your money into a fund and leave it. Most investments are cyclical and will go through periods when they perform relatively well and other times when they do comparatively badly.

* If your money is tied up in a poorly performing fund, consider moving it elsewhere especially if the company behind it is making no effort to redress the situation, say by appointing a new fund manager.

* Keep an eye on fund managers' movements. The one who has made your investment a success could be poached by rivals, leaving your fund to struggle.

* Before you put money in, ask if the fund manager and team are investing in the fund. They should be willing to put their money where their mouths are.

* Find an independent financial advisor who you trust and take their advice, balanced with your own research and information.

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