Active management & transaction costs

It has become increasingly popular to ‘bash’ active fund management in recent years, with advocates of ‘passive’ investing being particularly critical of the charges involved.

We take a neutral stance when it comes to the active and passive investment debate, with a belief that both approaches to fund management can add value to investors.

Some new analysis from the Investment Management Association (IMA) has found that transaction costs within actively managed funds are more than offset by investment returns, on average.

The research looked at the accounts of UK All Companies funds from 2009.

Actively managed funds had average transaction costs of 0.31%, compared to tracker funds at 0.06%.

For active funds, two-thirds of these transaction costs were the result of stamp duty.

Most interesting, the IMA analysis found that (again, on average) these transaction costs are more than offset by the returns delivered to investors from actively managed funds.

By looking at the annual difference between benchmark returns and fund returns after charges over a ten year period to December 2011, the IMA found that the difference between the net fund return and the benchmark return was on average significantly less than the Total Expense Ratio (TER).

For tracker funds, this analysis found that the TER was broadly the same on average as the difference between the benchmark return and the fund return.

Fund charges are important when constructing and managing an investment portfolio, but they are only one factor to consider.

There are situations where tracker funds are less suitable than actively managed funds, and vice versa.

An obsessive focus on the cost of investing can often ignore the importance of value, which in the case of fund selection is partially the net return received by the investor.

Photo credit: Flickr/redwood 1