Vanguard’s new offer

Now is not the easiest of times to be in active fund management. The seemingly inexorable shift into passive investment saw investors in Europe put almost twice as much money into tracker funds as actives last year according to Morningstar. In the UK, the Financial Conduct Authority has launched a scathing attack on over-priced actives. New data is published every week suggesting that large volumes of actively-managed funds fail to beat the market.

The latest threat to the active sector comes in the form of an aggressive push into the UK retail market by Vanguard, the US passive management giant. Its new online fund platform, which will sell its range of ultra low-cost passive products, will substantially undercut the rest of the industry. Many analysts expect Vanguard to grab a substantial chunk of market share.

So what does this mean for the actively-managed investment company sector? Though investment companies escaped the FCA’s censure in last November’s Asset Management Market Study – its focus was on the open-ended fund sector – the industry can hardly expect to avoid the backlash against active management.

In fact, complaints over the high cost of active funds will have prompted some wry smiles amongst investment company managers. For many years, closed-ended funds offered substantially lower charges than their open-ended equivalents; the fact the sector has never been able to pay commissions to intermediaries – unlike open-ended funds, which only stopped this practice following the retail distribution review (RDR) three-and-a-half years ago – enabled it to offer significantly better value.

Indeed, low charges in the investment company sector have been a major driver in its outperformance in most asset classes and fund sectors over the long term – even if many intermediaries appeared to fail to notice this differential, so blinded were they by commissions.

Today, however, the playing field on charges is more level. Open-ended funds have reduced charges since the RDR and the gap between their charges and investment company fees is now much smaller, even if large numbers of closed-ended funds have responded by reducing their own expenses and simplifying fee structures.

The result is that investment companies are going to have to be as conscious of the active versus passive debate as anyone else. A straightforward vanilla equity-based investment company will have to stand or fall on its performance figures; just like their open-ended equivalents, these funds will increasingly be punished by investors if they can’t make a convincing case for charges that, while competitive, are still significantly higher than tracker fund fees.

Still, the reality of the investment company sector is that a very large number of funds are not what you would describe as vanilla. This has long been an innovative industry that has built investment products that exploit the structural advantages of closed-ended funds to offer investors something they can’t necessarily find elsewhere.

That might be exposure to illiquid asset classes ranging from infrastructure to private equity, for example. Or it might be a laser-sharp focus on yield – no other investment sector includes so many funds that have religiously increased dividends every year for decades. It might simply be a twist on the traditional equity-based products – a high-income emerging markets fund launched by Jupiter Asset Management this month is a case in point.

In other words, investment companies offer something different – or at least a very great number of them do. For that reason, they will sit slightly apart from the passive versus active debate, even if they feel many of its effects. Passive fund supporters are quite right to argue that it makes no sense to pay over the odds for bog-standard equity products that deliver inferior performance. Investment companies, however, specialise in the opposite of bog-standard.