A key part of a discretionary fund manager’s (DFM’s) remit is to be able to meet all of its clients’ objectives and not shoehorn them into a portfolio that might not be suitable for their objectives.
These aims will include its customers’ time horizons, attitudes to risk versus reward, or be appropriate for the funds they have available for investment.
While the majority of investors’ needs are pretty straightforward, fund managers should encourage them to understand the risk and return characteristics of their investments over the longer term.
Equally, it is important to set realistic expectation goals with regard to anticipated returns, and to deliver those revenues in the most cost-efficient manner.
Advisers, constantly on the lookout for innovation to meet their clients’ needs, are not only concerned about the minimum and maximum fee structures, but need to feel comfortable with what they are paying for the level of service and performance they receive.
For example, offering a range of enhanced passive portfolios – into which annual Isa allowances can be invested – seems to make perfect sense, especially as they are risk-rated and by their nature low cost.
Listening to feedback from advisers, a number of DFMs have launched passive model portfolios in recent times. These vehicles will typically have the same tactical asset allocation as the actively managed portfolios.
However, instead of blending five or six funds per asset class, they might have one or two.
There is no value versus growth bias as the portfolios aim to track the respective benchmarks, while the DFM targets a degree of alpha with a tactical asset allocation overlay.
Active versus passive investing has been a long-standing debate, and there are merits to be found in both. By blending the two and using tactical asset allocation, the outcome can be the best of both breeds.
Advisers say that for many clients the advantage of a predominately passive portfolio is that costs are lower.
While there is belief in smart beta, some managers do not use these strategies. Standard market-cap-weighted indices have attracted criticism as they have a tendency to overweight overvalued stocks, particularly during market bubbles – Vodafone at the height of the technology bubble is a prime example.
As a result, standard passive funds that seek to replicate market-cap-weighted indices are suboptimal, and smart beta proponents argue that better returns can be garnered by investing in passive indices that are constructed using alternative composition strategies that provide investors with exposure to certain ‘factors’.
In common parlance, a factor is a common, systematic driver of a group of securities returns. These are usually broken down into the following categories: liquidity, momentum, quality, size (small-cap effect), value, volatility and high yield.
Smart beta portfolios can be made up of one of these factors or all of them, and proponents argue that over time they will outperform standard market-cap indices.
