A tale as old as time

New research, same old story. Data just published by Interactive Investor, the wealth management platform, tells us something we already know – that investment companies tend to outperform open-ended funds over the long term.

That’s not meant to criticise Interactive Investor by the way. Its research is a useful addition to the wealth of studies looking at the track record of different type of investment vehicles – and given that past performance is no guarantee of the future, it’s important to keep updating such analysis. Still, the consistency of the findings of all this research is remarkable. Investment companies keep coming out on top.

Interactive Investor’s study looked at the performance of funds over five, 10 and 20 years to 30 June, as well as their year-to-date performance. The same story was repeated in many sectors – investment companies have typically suffered sharper setbacks in 2022, but prospered over extended timeframes.

To take UK Equity Income funds as an example, the average investment company lost 23.3% over the first six months of the year, compared to an average loss of only 14.7% amongst open-ended funds. Look longer term, on the other hand, and the story switches around.  Over five years to 30 June 2022, UK Equity Income investment companies were up 18.3% compared to 11.3% from open-ended funds; over 10 years, the former delivered 134.7% to 97.5% from the latter; and over 20 years, 320.2% beat 239.7%.

A similar story is evident in every sector, with investment companies more likely to deliver superior returns over longer time periods. And in almost every case that Interactive Investor looked at, investment companies were significantly ahead on a 20-year comparison.

The wealth manager thinks gearing is the primary driver of this outperformance. The fact that investment companies, unlike other types of collective fund, are able to gear up gives them a competitive advantage over extended periods, Interactive Investor argues. Gearing can hit performance over the short term, but since markets tend to rise over longer timeframes, it should be a net positive in the end.

That analysis is no doubt correct, but it’s worth pointing out that there are other factors at play here too. Investment companies have several other advantages. For example, the closed-ended structure means there are no inflows and outflows of cash for managers to worry about, leaving them free to concentrate on their portfolios. The governance of an investment company is a good way to hold managers to account. And there is greater freedom to manage the flow of income from portfolio to investor.

Moreover, all these advantages apply whichever asset class you’re talking about. Many advisers now see the case for investment companies when it comes to exposure to illiquid assets such as property, infrastructure and more specialist investments. But as the Interactive Investor numbers demonstrate, the investment company model has also delivered in more traditional asset classes too, including equities.

None of which is to suggest that investment companies are right for everyone, or in all circumstances. But they do keep outperforming. And if you’d invested in the average open-ended Asian Pacific fund 20 years ago, earning 553% since then, you’d certainly be casting envious looks at the 1,174% delivered by the investment company equivalent over the same period.