Why the kids are alright

David Prosser explores how investment companies are contributing to younger investors' success.

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David Prosser explores how investment companies are contributing to younger investors' success. 

kids

Let’s hear it for the next generation of investors. Data just released by the interactive investor platform on the returns achieved by its customers shows that it’s the youngest who are performing best. Investors aged between 18 and 24 have secured average returns of 43% over the past two years, Interactive Investor’s data reveals, a better result than any other age group has managed.

Indeed, rather depressingly, Interactive Investor’s data suggests investment performance may decline with age. Each successive age group has achieved lower returns over the past two years, the study shows, with the over-65s securing the worst returns of all.

What is the secret to younger investors’ success? Well, one part of the explanation is their greater willingness to put money into investment companies. The typical 18-to-24-year-old on the Interactive Investor platform holds 32% of their portfolio in investment companies; amongst other age groups, closed-ended funds account for only 22% of portfolios on average.

Investment companies are not a sure thing – the sector has had a difficult couple of months amid global stock market volatility. But all the historical data suggests that over time, closed-ended funds tend to outperform. Countless studies looking at the performance of comparable open-ended and closed-ended funds show the latter doing better over time – and by more comfortable margins over extended periods.

That makes perfect sense because investment companies have a number of in-built advantages. For example, they are allowed to take on gearing – borrowing additional money to invest – which is a tactic that is off-limits to other types of funds. In a rising market, that accelerates performance. Structurally, investment companies benefit from stability of assets; with no inflows and outflows of investors’ money to worry about, managers can get on with running the fund and invest it fully, rather than holding cash to meet redemptions. It also helps that investment companies have always been highly competitive on charges, reducing the drag on performance inevitably caused by fees.

For all these reasons, there is good reason to expect the typical investment company to have outperformed its open-ended counterpart – and to continue doing so. The evidence of interactive investor’s study is that this has not gone unnoticed by younger investors.

That begs an obvious question. Why are younger investors significantly more likely to be holding investment companies than their older peers?

The answer may be that they have arrived on the investment scene unencumbered by the baggage of the past. For many years, investment companies were not regarded as part of the mainstream. Financial advisers remunerated through models that incentivised them to favour open-ended funds for their clients tended to ignore investment companies altogether. The closed-ended fund sector was perceived as something of a backwater.

More recently, as regulation has closed in on commission payments, these perceptions, which were always unfair, have begun to fall away. Investment companies have enjoyed a renaissance over the past decade, with advisers and investors looking at their track records with fresh eyes.

Older investors may find it difficult to make that adjustment – cultural prejudices naturally become more ingrained over time. Their younger counterparts, by contrast, are able to take a dispassionate view of the collective funds market. And when they do so, investment companies often come out top.