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Active or passive? 'Neither side has landed a knockout blow'

Active or passive? 'Neither side has landed a knockout blow'

It is one of the longest-running debates for IFAs: are clients better served by active fund managers or passive strategies? Scott Gallacher, director of Leicester-based Rowley Turton, believes active approaches can add value. But it ultimately comes down to personal preference. ‘Despite years of claim and counterclaim, and various academic studies, neither side has landed a knock-out blow to prove its case,’ he said.

But Gallacher believes each approach has its merits in certain situations. Active managers’ ability to exploit pricing errors ‘means less developed and less-analysed markets, such as emerging countries, provide the best opportunities for them’, he said.

In contrast, Martin Bamford, managing director of Surrey-based Informed Choice, said US and UK equity markets are large, well-traded and generally considered very efficient. ‘This makes a passive approach more suitable than active fund management,’ he said. ‘Managers find it very difficult to consistently generate alpha in efficient markets.’

Bamford also suggested, in the long term, low-cost index tracking generally results in a better net return. ‘But investors might consider active fund management, at an acceptable price, in markets that are less efficient and less well-represented by an index,’ he said.

Up-and-coming areas

Andrew Merricks, head of investments at Brighton-based Skerritts, uses passives to access immature sectors. He holds passive exchange-traded funds (ETFs) in cybersecurity, robotics and automation, and healthcare innovation.

‘We want to buy everything in these sectors. We don’t know which companies will become market leaders,’ he said. ‘We aren’t taking an active bet on any outperforming.’

Merricks thinks geographic exposure is of secondary importance in these sectors. ‘For example, a lot of robotics companies are in the US and Japan. But that’s just a by-product of the sector,’ he said.

He also insisted active trumps passive when it comes to smaller companies, because these remain under-researched. ‘You have far more companies to choose from, so stock pickers can be more selective about what they buy,’ he said. ‘Few smaller companies funds look alike.’

Finding balance

Zoe Dagless, chartered financial planner at London-based Addidi Wealth, favours passive investing as she believes stock markets are broadly efficient. She also prefers focusing due diligence on the fund houses and asset allocation, rather than on individual fund managers.

But there are exceptions to this rule. For example, Dagless finds a totally passive approach virtually impossible to achieve when clients want to invest ethically. ‘If you were following the market, you would be investing in tobacco and armaments companies,’ she said. ‘So we need some active fund managers in our ethical portfolio.’

Justin Modray, director of Candid Financial Advice, combines active and passive approaches in his portfolios. ‘But it’s hard to find stock market sectors where active managers consistently beat trackers,’ he admitted.

However, he does not exclude good active managers in any sectors. This is despite accepting it is difficult to predict which will be successful. ‘I’m more inclined to take that gamble by complementing trackers with active managers who invest very differently to the index, to provide a hedge,’ he said.

His decision is also influenced by sector considerations. ‘Physical commercial property and targeted return only suit active management, since it’s not practical to track these areas,’ he said. ‘However, some property share tracking alongside can make sense, despite the higher short-term stock market correlation.’

Philippa Gee, managing director of Shropshire-based Philippa Gee Wealth Management, also believes both active and passive have roles to play. ‘It’s now about combining these approaches to dilute the risk and strategy. Then, very closely monitoring the investments in these rapidly changing times,’ she said.

Gee does not believe in selecting passive funds for particular geographies. ‘You could have said in the past active managers have failed to deliver in the US. And the passive route was the better way to achieve consistency. But I don’t believe you can argue that anymore,’ she said.

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