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Fund-of-funds: the rivals

Are you a fan of meal deals, breakfast cereal variety packs, and barely twitching a muscle when it comes to investing?

Then a fund-of-funds is probably for you.

A good multi-asset fund-of-funds is a passive investor’s Swiss army knife. Open it up and you’ll find several index trackers inside, offering you an instant, globally diversified portfolio, with equities covering the world’s major stock markets allied to a slug of bonds, and sometimes property, gold, cash and more to boot.

A fund-of-funds stack

The joy of fund-of-funds is they are as simple as a Wurzel and relieve investors of chores like:

It’s hard to make investing any more convenient than a fund-of-funds. However there is one complexity left – navigating the proliferation of competing all-in-one products.

Happily Monevator is here to streamline even that choice. You’ll be back to eating grapes in no time!

You can see our round-up of the main contenders in the table below. We’ll spend the rest of this post talking about how to choose between them.

Fund-of-funds table

What we’re looking for in a fund-of-funds

We’re passive investing fans here at Monevator. We believe that most people are more likely to succeed if they follow a passive investing strategy.

The key principles of passive investing are:

For our money, only the first two products in the table above – from Vanguard and Fidelity – meet all those conditions.

The rest fall foul of the ‘no market timing’ rule.

Every fund-of-funds family in the table features globally diversified portfolios built from low-cost investments – usually index trackers, though not always. Each family line-up also enables you to select your level of risk. Choose the funds that are loaded with equities to take more risk in pursuit of higher rewards. Opt for a fund-of-funds with more bonds if you prefer a smoother ride.

So far, so similar – but only Vanguard’s LifeStrategy range and Fidelity’s Multi Asset Allocator family (including its Allocator World fund) offer stable asset allocations that you can be sure they’ll stick to.

The rest give their managers licence to chop and change. For example, the HSBC Global Strategy Balanced fund can allocate any amount from 40% to 70% in equities, depending on the manager’s market view.

There’s ample evidence to show such active management does not pay off for most people. Yet the literature for some of these fund-of-funds runneth over with BS bingo-talk about dynamic asset allocation, proprietary research, and discretionary management (“House!”).

We can judge the effectiveness of these efforts by comparing the funds’ results on Trustnet.

Source: Trustnet charting tool, 21 June, 2019

The most relevant time frame is the longest comparable one we can get, so let’s focus on the five-year column. Here we see that the HSBC Global Strategy Balanced fund edges the Vanguard LifeStrategy 60% Equity, with the HSBC product’s 8.8% annualised return besting Vanguard’s 8.6%  – a pretty negligible difference.

As for the rest, did they add value with all their expert analysis and volatility management and huffing and puffing?

No, the other active managers lagged a simple passive strategy, as per usual. (It’s worth noting that the Fidelity Multi Asset Allocator range was actively managed until March 2018.)

It’s true that the active HSBC fund has pipped its passive Vanguard rival over five years. But we need to ask:

  • On what basis would you have picked the HSBC fund out of the pack five years ago?
  • Would you rather invest in a product with clearly defined rules? Or one that can veer wildly from your preferred asset allocation?

You can rely on a passive strategy to deliver the market returns of its investments, minus their costs.

Active strategies are a riskier bet. Some may top the table, but some will trail badly because their managers made the wrong calls.

Passive aggressive

Why are we tabling these active funds at all, if we’re passive like a koala bear after a heavy lunch?

It’s because many Monevator readers have a significant chunk of their wealth invested in Vanguard LifeStrategy and they want to diversify into other multi-asset fund-of-funds.

But this space is full of pitfalls when you dig into it. There’s a ton of funds trading on the credibility of passive investing while also dazzling prospects with their active management bling. Some of the firms even have the cheek to put the word ‘passive’ in their fund names, though to us they appear to be blatantly active.

Such passive pretenders justify themselves by investing in index funds and Exchanged Traded Funds (ETFs). But there’s nothing passive about index trackers if you’re using them to market time. Passive investment is a strategy not a product type.

The ‘active passive’ posture is like an oil company claiming to be low carbon because they don’t do coal, or because they’ve planted a wind turbine on top of company headquarters.

Most of the active products seem to be designed to reduce friction for financial advisors. The advisors get a low-maintenance package that neatly complies with the risk regulations and doesn’t suck them into awkward client conversations about how believing in market-beating managers is like believing in Santa Claus.

Watch out

I’m a long rant away from the table now, but I need to explain a few things about what I’ve picked out in case you’re tempted by the active options.

Low cost is good. The less of your return that’s removed from your pocket the better.

The fewer degrees of freedom the manager has, the happier I am. We’ll keep an eye on the fund asset allocations in the years ahead, because it may be that the managers are pretty hands-off in some cases. Low OCFs, transaction costs, and portfolio turnover rates all point to a manager that isn’t sweating particularly hard on your behalf. (That’s good from passive perspective.)

What about the fund features picked out in the ‘Watch out’ and ‘We like’ columns of the table?

  • Home bias in equities means the fund invests more in UK shares than a strictly globally-diversified market cap strategy dictates. That’s fine for some – it may not be optimal, but it makes sense if you want to reduce your exposure to currency risk.
  • Bonds – Unhedged global bonds, corporate bonds, emerging market bonds/debt, and junk/high-yield bonds all add extra diversification and risk to your portfolio. A 60:40 equities:bonds portfolio contains more risk than at first blush if it invests in a high proportion of bonds that are unhedged or rated below AA. The point of bonds for our purposes is to be a refuge in a crisis, not an extra source of risk. The bonds that best serve this goal are UK Government bonds or highly-rated foreign government bonds that are hedged back to the pound.
  • Some of the fund-of-funds families use alternative strategies as part of their long-term asset allocation, especially in the riskier versions of their funds. That means your fund may be taking long/short positions and/or investing in commodities, Exchange Traded Notes (ETNs), private equity, and other complex instruments. You may think that’s worth the risk and expense. I don’t.
  • Extra diversification – Some products include property (generally REITs), gold, risk factors (such as small cap or value funds), and sector funds (for example tilting towards tech firms). There’s good evidence in favour of holding a slice of property and risk factors in your portfolio. Gold is a mixed bag. You’re not compensated for taking risk on sector funds. You’ll notice little difference if a fund holds a token 2% to 3% in an asset class but it’s handy for the fund’s marketing team, which can claim to be more diversified than thou.

Ultimately, it’s your equities / bond split that will matter most for your result. Choose the extra bells and whistles if you believe the evidence but don’t be fooled into thinking that more always means better.

An alternative way to a simple diversified portfolio

We buy package deals for convenience not perfection, so it’s no surprise when the options don’t fit like a made-to-measure suit.

A good alternative to a fund-of-funds is to pair a simple global equity tracker with a UK gilt tracker, rebalance annually, and be satisfied with a job well done.

Sure, that’s two funds not one, but you’ll be as diversified as needs be and you won’t have to keep your eye on a frisky fund manager.

Final thoughts for DIY fund-of-fund selectors

A few final pointers about this round-up.

OCFs are based on the best available fund share class that’s accessible via consumer platforms.

The ‘Watch out’ and ‘We like’ columns are based on the asset allocation of the fund-of-funds closest to a 60:40 equity:bond mix. The results table compares these same funds. Holdings and results will vary for other funds in the family.

We deem BlackRock’s MyMap range too new to be included in the table, but we have some initial thoughts.

The Dimensional World Allocation range is only available through financial advisors so doesn’t make our list.

Finally, the following multi-asset funds were rejected for being too expensive / active / inaccessible:

  • Aviva Investors Multi-Asset Funds
  • BMO Universal MAP Growth Fund
  • Fidelity Multi Asset Open Funds
  • HSBC Portfolios World Selection
  • Invesco Global Balanced Index Fund
  • Invesco Summit Growth Funds
  • L&G Mixed Investment Funds
  • L&G Multi Asset Core Funds
  • L&G Multi Manager Trusts
  • MI Charles Stanley Multi Asset Funds
  • Standard Life MyFolio

Take it steady,

The Accumulator

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Weekend reading logo

What caught my eye this week.

There’s a big article to be written about the FIRE movement (though I still don’t like the name) and what it can and can’t deliver for its growing band of adherents.

With ever more aiming to ride the wave to the island of early retirement (or maybe getting washed up on that shore by fate) it’s not surprising to me to find the sea catching quite a few by the heels and dragging them back out again.

It turns out the promised land isn’t exactly what they expected – or else they discover they’re not quite who they thought they were.

For now though I just want to highlight a thought-provoking article in The Atlantic this week that’s more than tangentially relevant.

In Your professional decline is coming (much) sooner than you think, the author warns high-flyers in the prime of their life that the decline and even demise of their careers is almost inevitable. Biology will catch you, even if you escape the siren call of the personal finance bloggers!

So do not ask for whom the bell tolls:

According to research by Dean Keith Simonton, a professor emeritus of psychology at UC Davis and one of the world’s leading experts on the trajectories of creative careers, success and productivity increase for the first 20 years after the inception of a career, on average.

So if you start a career in earnest at 30, expect to do your best work around 50 and go into decline soon after that.

The whole piece is well worth a read. But isn’t it interesting that the frustration identified by some of those desperate to retire early might not be all to do with work itself – and more to do with their waning place in it?

Is early retirement seen through this lens a precocious mid-life crisis? Instead of splurging to buy a sports car, you squirrel away the money to do so if you wanted to.

Don’t get me wrong! I continue to think financial independence is a great goal for nearly everyone – and retiring early worth a try if you’re keen. It took me a mid-career sabbatical / snoozefest to realize I’d probably always want to do some paid work for as long as I could.

Maybe you’ll have to retire early to discover similar. Hopefully no harm done – it’s a joy to be financially free even in an office of wage slaves, though I’d keep it under your hat and be careful not to betray yourself in the Secret Santa.

At the same time, you might consider that you and the harried 50-something man without a plan from accounts that you just bought a pair of vintage Bart Simpson socks for might have more in common than you think…

The same question: “What next?”

[continue reading…]

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Visualizing investors’ emotions

Investors’ emotions circle around from fear to greed and back again.

Given that investors’ emotions move in cycles from fear to greed and back again, two obvious questions to ask are “Where are we in the cycle now?” and, as greedy asset gatherers, “How can I make money from it?”

Entire books have been written about slumps and bubbles.

For this post we’re going to make do with a few over-simplified graphics.

Investor’s emotions in graphic form

Note that in the different attempts at visualizing investors’ emotions that I’ve collected below, you won’t find any shots from charting tools or similar

While I’ve no doubt that investors’ emotions do cycle, I’m very doubtful that many people can take short-term advantage of it through charts. So no double-tops, candlesticks, death crosses or any such technical analysis bric-a-brac here.

Rather, the main benefit to understanding emotions and investing is to know yourself better.

Once you appreciate how psychology moves the markets – and can influence yourself – it should help you stick to your plan, whether it be sensible passive investing or more hands-on active investing antics.

Greedy buying, fearful selling

Nobody is immune to the cycle of fear and greed. Even the greatest investor can get carried away, or else be made miserable by a deep market downturn.

From euphoria to despair

When I wrote that I thought the markets were a clear buy in March 2009 for anyone who was ever going to buy shares, I got nasty comments across the blogosphere.

I don’t mean “yeah, perhaps, but I don’t think he’s right”. I mean suggestions I was part of some secret narco-government backed plan to ramp up the market to make the last few people with any cash insolvent.

The nicer ones just said I was an idiot.

That’s what the bottom of a bear market looks like. (While I was confident it was a buying opportunity, I won’t pretend to have known the subsequent rally would come so swiftly!)

Nobody rings a bell at the top

This is the same graph as above, really, but I like how the creator has put in the shaded areas. This stresses that there’s a phase of euphoria and of despair, rather than a single event that marks the top or bottom.

For instance, where are we as I write in June 2019?

It’s complicated!

In terms of the US shares that make up the largest part of the assets of a global tracker, I’d guess we’re somewhere between exhilaration and euphoria.

That’s hardly the case for the Brexit-blighted UK market though. With domestic-facing stocks especially, it feels like we’ve been trudging through the denial to capitulation stage for at least three years.

As for the rest of the world – ex-US – I’m torn between thinking we’re sitting on an upswing at the optimism point, or sliding down the other side of the graph into pessimism!

The following graph is illustrative. It shows the divergence between the valuation of US shares and the rest of the world:

Source: Morgan Stanley

In other words, the US stock market looks very expensive compared to the rest of the world but – like the similar divergence between growth and value shares – this relative costliness has been the case for years now.

Timing a reversal is hugely difficult. Most investors will do better to stick to a passive investing plan.

Blast from the past: In the 2010 version of this article, which I’m updating in 2019, I judged global markets sat somewhere between hope and relief. I wrote: “If I’m right, then the masses who are still waiting for an optimistic mood before buying will pay a steep price in forgone returns.” History has shown that was true, demonstrating at least the potential for making a ‘precisely wrong but roughly right’ long-term forecast. (Or, alternatively, proving one can get lucky now and then!)

It’s less risky to buy something unwanted

Most active investors, for their sins, need to pay attention to sentiment – otherwise they’ve no business active investing.

It’s usual better in the long run to buy an asset nobody currently wants, mainly because you might get it cheap.

If it’s cheap then there’s less far for it to fall, as well as much higher for it to climb.

Also there’s probably not much optimism ‘baked into’ the price. That means there’s potential for something unexpectedly good to happen, which could lead to a reappraisal of the asset’s value.

In contrast, buy something everyone loves when everyone is buying, and if it disappoints you face the double-whammy of a de-rating.

Elementary, you’d think, but for some reason people like to buy expensive. Just ask my friends, who almost to a man1 shunned my suggestions to invest for the long-term in the 2008/2009 bear market.

As investing veteran Howard Marks writes in Mastering the Market Cycle:

“Superior investors are people who have a better sense for what tickets are in the bowl, and thus for whether it’s worth participating in the lottery.

In other words, while superior investors — like everyone else — don’t know exactly what the future holds, they do have an above-average understanding of future tendencies.”

Nothing new under the sun

This is clearly just the chart above, jazzed up for a fund manager’s literature.

What’s interesting though is the date. This chart was created in 1998. Just two years later we saw the mother of all stock market bubbles, and nine years later one of its fastest and most frightening slumps.

If you’d seen this chart 12 years ago, wouldn’t you have been better placed to ride through that roller coaster?

Little ups and downs add up

I like this graphic because it includes lots of jagged lines. The other charts make riding investors’ emotions look as simple as going up and down on a see-saw, but in reality it’s a lot tougher than it looks.

Is any particular zig the start of a new leg-up – or is it the last gasp before a zag down into a slump?

Very hard to tell until five years later.

Funny old investors, and their emotions

(Click to enlarge)

I’m pretty sure I first saw this graph during the dotcom boom. It’s been regularly wheeled out ever since.

No wonder: Whoever knocked it up all those years ago knew everything you need to know about investors’ emotions, and had clearly been around the block.

I wouldn’t be surprised if he or she had said these things to themselves. Books and blogs are reasonable teachers, but nothing beats living through a cycle of fear and greed to really appreciate sentiment and emotion in the market. And to get a sense of your own risk tolerance, of course.

Further reading:

  1. The women were genuinely smarter, and kept dripping money in []
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Weekend reading logo

What caught my eye this week.

I went to a chilling talk this week by Oliver Burroughs, the author of Moneyland. The book is a tourist’s guide to that murky realm where offshore finance and spurious shell companies meet kleptocracy and tax-dodging Belgium dentists.

When did you last change your mind about something big? We all know it’s rare.

Well, I went into that talk thinking that super-rich tax avoidance was in large part a handy bogeyman for politicians to trot out, and that onerous anti-money laundering procedures were quite possibly an overreaction to several miserable developments of recent years, such as terrorism and the ill-judged War against it.

And I came out temporarily terrified.

Of course I want rich people to pay their taxes like anyone else.

I’m also against the looting of poor nations – who wouldn’t be, bar the looters?

But the big picture Burroughs paints is of a world where wealth everywhere is inexorably moving out of reach of the State and the tax man. This has already crippled the budgets of developing nations and it could eventually threaten our own.

From his award-winning book, which is just out in paperback:

“…this means Moneyland has neutered the core functions of democracy – taxing citizens, and using the proceeds for the common good – which in turn has disillusioned many people with the democratic experiment altogether.

In despair they have turned to strong men … who have further undermined democracy in a vicious cycle that benefits no one but the rich and powerful.”

Burroughs is right that this has crept up on us. For example, we’ve all read stories about the dubious money behind London’s luxury high-rise boom – and then turned the page to the sports section.

Perhaps some of you will call me naive in the comments and point out other such stories. But what impressed me from the talk wasn’t the existence of these dubious channels but the sheer scale – 10% of global GDP and rising.

Who watches the Watchmen?

By coincidence, the day after the talk I heard Paul Lewis bemoaning the high cost of financial regulation in an FT podcast. Lewis estimates it costs £1.7bn in the UK, and rightly points out that it’s ultimately paid for by us honest consumers.

In the FT‘s printed version, he notes [Search result]:

“…the good guys will continue to pay compensation for the bad guys. And everyone who uses financial services — just about all of us — will continue to stump up for the nearly £2bn a year we spend enforcing the rules, fining those who break them, and compensating those who have been cheated.

The most expensive lawful industry in the world. Probably.”

Lewis is no cheerleader for a trodden-down financial services industry. His inference is that the sector should be doing more to police itself.

Just be honest, guys!

Well maybe. But if we can’t get a grip on the off-shoring of not just money but accountability – and even in one case Burroughs highlighted, legal vulnerability, shielded against by paid-for diplomatic status – then those billions spent each year will seem trivial.

Especially compared to the price we may ultimately pay.

[continue reading…]

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