Do Active Funds Underperform? But Costs are the Real Problem

On the 24 October the Financial Times FTfm supplement led with a front page article that was headlined “99% of Active US equity funds underperform”. It also had a sub heading of “Almost all UK, global and EM funds have failed to outperform since 2006″. So I sent a letter to the Editor which said the following, much of which they have published today (31/10/2016) plus letters from other writers making the same point. This is what my letter said:

“Your headline in FTfm that 99% of active US equity funds under-perform might make a good lead story, but perhaps you would care to say how many passive funds under-perform their indices. Would it be 100% by any chance? Bearing in mind that all funds have charges, they are almost bound to under-perform their comparable benchmark and that is particularly so for passive funds.

Indices tend to overstate performance as is well known as poor performing stocks drop out of the index, with better performing ones replacing them.

In addition if your readers failed to read to the end of the article, they would have missed the fact that four out of five active equity funds beat their benchmark over the past five years, even after taking into account management and other charges presumably!

Yes there are poor value active funds, as there are poor value passive funds. And perhaps investors are over optimistic in their capability to pick active managers who will outperform their benchmarks. But it is not as simple a story as made out in the article.”

The real problem for investors is the high charges that can erode their returns. This was highlighted recently in a report published by Better Finance. This is what they say:

“The findings from the 2016 research report released on 27 September 2016 clearly confirm that the long-term performance of the actual savings products promoted to EU citizens (in particular for long-term and pension savings) unfortunately has little in common with the performance of capital markets. This Is mainly due to the fact that most EU citizens invest less, and less directly, in capital market products (such as equities, bonds and low-cost ETFs), but into more “packaged” and fee-laden products (such as life insurance contracts and pension products).

One could argue that insurance and pension products would have similar returns to a mixed portfolio of equities and bonds, since those are the main underlying investment components of the “packaged” products in question. But using this logic to compute returns for retail investor portfolios, like the European Securities and Markets Authority (ESMA) did, implies a “leap of faith” in that it completely ignores realities such as fees and commissions charged on retail products, portfolio turnover rates, manager’s risks, etc. Charges alone totally invalidate this approach.

Overall, a direct balanced investment (50% in European equities / 50% in Euro bonds ) from a European saver in capita! markets at the eve of the century would have returned a substantial +105% in nominal terms (gross of fees and taxes) and +47% in real terms, which means an annual average real return of +2.5%. Unfortunately most pension savings did not, on average, return anything close to those of capital markets, and in too many cases even wiped out the real value for European pension savers (i.e. provided a negative return after inflation).”

Their estimate for the net real returns from pension savings in a range of European countries actually shows the UK third out of 17 with a return of 2.5%. But most countries were much worse.

There is of course a simple solution to this problem. Namely to manage your own investments as ShareSoc regularly advocates. With the availability of “self-select” SIPPs this is now easy to do and your costs will then be as low as you can possibly make them.

Roger Lawson

FRC Lab Report on Business Model Disclosure

Do you ever have difficulty understanding how a company really makes its money? If so it’s worth noting that the Financial Reporting Council (FRC) have recently published a report on the work of their “Lab” into Business Model Reporting which may be of interest. ShareSoc participated in the work of this Lab where various stakeholders discussed what improvements were necessary.

To quote from the FRC’s press release, the Lab found:

  • Business model information is fundamental to investors’ analysis and understanding of a company and a lack of good disclosure on business model raises concerns over the quality of management;
  • As business model information provides context to the other information in the annual report most investors want it positioned towards the front of the Strategic Report;
  • Where a company operates a number of business models, disclosures of each significant business model is desired;
  • Investors are looking for better natural linkage of business model information to other sections of the Strategic Report, and consistency with disclosure in the annual report; and
  • Investors are looking for more detail than is currently provided by most companies. In particular investors find disclosures are often lacking information that answers questions such as:
  • What are the key revenue and profit drivers and how do profits convert to cash?
  • Are there any key asset and liability items that support the business model?
  • What is the company’s competitive advantage?


See for the full press release.

In essence investors are looking for improved disclosure on business models so they can better understand a business and its strategy.

Roger Lawson

Remuneration Campaign

ShareSoc Director Cliff Weight has been leading a campaign to reform remuneration in public companies – something that is now of interest to Prime Minister Theresa May it seems and other Members of Parliament. We have now set up a public page on our web site to cover what we have published in this area and activities to date. It is present here: .

There is also a dedicated “Forum” on the ShareSoc Members Network where Members can discuss this issue.

Excessive director remuneration surely needs tackling and will continue to grow faster than the pay of other workers unless some of the root causes are reformed. Directors should not determine their own pay, directly or indirectly, and institutional fund managers need to take a stand on the matter. But pay needs to be examined and controlled before it gets to a vote of shareholders when it is too late to do much as the English hate confrontation.

Well at least that’s my view.

Roger Lawson

Learning From The Experts

One way to learn about how to invest successfully is to follow the style and rules of the experts. Yesterday (27/10/2016) I attended the AGM of Standard Life UK Smaller Companies Trust (SLS) where Harry Nimmo has been the fund manager since 2003. There was much that investors could learn from him.

I was also going to attend the City of London Investment Trust (CTY) later in the day but as they were offering an on-line live video of that decided to use that option instead – that was a mistake as it did not appear. Top marks for promoting that, but a black mark for it not being provided!

Here is a very brief report on the SLS meeting – a much fuller one is on the ShareSoc Members Network. The fund is managed by Harry Nimmo who has a great track record. I would hold more of this company but in fact of his top 30 holdings I hold 12 directly so there is a lot of overlap. It is pure coincidence that there is such an overlap, but another shareholder asked a question about possible “followers” driving up the share prices of the portfolio companies. Mr Nimmo thought that was unlikely.

Mr Nimmo has no plans to retire for some years and has even bought more shares in the Trust recently. He mentioned he had been with Standard Life for 32 years and explained his investment approach as part of his presentation to investors.

Normally they aim to hold about 55 equities which are Harry’s “conviction ideas”. He said they don’t invest in micro caps or blue-sky propositions and keep their largest holdings below 5% of the portfolio (i.e. tend to top slice those that grow too large). They avoid oil/gas and mining companies.

Harry covered the top ten holdings and the slide he used showed their dividends (which all but one pay), and the prospective p/e – generally above 20 with two (Accesso and Fevertree) above 50. A shareholder commented on this but Harry mentioned ASOS – sold at a good profit in 2014 – where it was above 50 all the time they held it. Another shareholder questioned share valuation techniques and whether they use “PEGs”. Harry said there are lots of different ways to value companies, but financial valuation is low down the list in his stock selection criteria. These tend to be: business momentum, growth, cash flow, variability of earnings and clear future path.

Harry also covered the sector breakdown (strong focus on software, healthcare and food/drink at present), and his recent sales and purchases. He also said that the “tracking error” versus their index has gone up (i.e. they are diverging from index holdings). But volatility is only 0.6 versus 1.0 in the benchmark. Also their dividend growth forecast is higher and they have a high return on equity in their portfolio holdings. In summary he said smaller companies can give higher returns over the long term, but there is no higher risk in them [at least in terms of his holdings].

He was also asked to expand on the matrix investment process they use. The answer given was that they track 13 different factors – growth, quality, momentum, etc. He said they are looking for a predictable business. That delivers positive results, but does not necessarily work all the time.

Altogether a well run meeting that was well worth attending and a useful reminder on how to pick good small cap shares.

Roger Lawson

Setting The Facts Straight

One of my most ardent followers – a certain Tom W. – has commented on the Press Release that ShareSoc issued yesterday (see He makes a number of allegations which seem to be a figment of his imagination. Here are the facts:

  1. He suggests that our call for Government support of representative organisations such as ShareSoc means “a big fat lunch” for Roger Lawson. Readers are reminded that ShareSoc directors do not get paid, and we only claim expenses in exceptional circumstances. Yes we are having an Xmas lunch but the directors are paying for ourselves and our guests.
  2. He repeats past allegations about “share ramping” when neither I nor any other directors of ShareSoc have ever recommended folks should buy or sell shares – we have specific rules against it. Can Tom say the same? If he wants to carry on repeating this nonsense he should spell out where such recommendations were made.
  3. As regards the two companies he mentions, Blinkx (now called RhythmOne) and Globo, these are the facts:

a – Blinkx was the subject of an attack in a blog by Ben Edelman and initially he did not state that he was being paid by those shorting the stock. How ethical is that? But Tom supported the attack and promoted it. The fact that there were obvious errors in Edelman’s initial post was ignored and I highlighted the dubious nature of the affair. The company has subsequently been recovering from the general adverse publicity surrounding video advertising that affected the industry in general where there have been accepted doubts that the video views reported might be inaccurate and subject to fraud. It has never been proven that Blinkx was a party to such frauds.

b – As regards Globo, that company clearly dressed up its accounts to look like those of an early stage software company. Subsequently those accounts have been shown to be fictitious with not even the audited cash balances being true. Many financial media commentators were positive on the company until very late in the day, .

As pointed out above, I never recommended those companies to anyone. My interest in those companies at the time was made obvious by the fact that I wrote reports on their AGMs, and you cannot normally attend an AGM without being a shareholder. The AGM reports were not altogether positive and did report the negative comments from others and the difficult questions posed by other attendees. For example a comment even before their last AGM in a blog post was “Globo is a company that has generated some debate on bulletin boards because of its high debtor levels, high and increasing debt (while holding cash), and large software development capitalisation”. Why would anyone who was puffing the stock say that?

In addition the ShareSoc newsletters have a clear statement that contributors (including the Editor) may be holding the stocks mentioned. Nobody was likely to be under any misapprehension on these points.

It is unfortunately true that anyone who reports on smaller companies is likely to be commenting on what can be a very murky area of the market. One can only try to get the facts straight (and check with the companies themselves if there is any doubt). Writers who hold a stock are also often more familiar with it and hence can write more insightful reports on it so it would not be wise to stop people from writing articles for ShareSoc about companies they hold. Why otherwise would they take the time to research companies as contributors are not paid?

Now Tom wishes to tackle the problems of AIM and the dubious companies that frequent the market. But instead of being a lone wolf baying at the moon, has he actually done anything about it? Such as submitting his own proposals to the BIS Parliament Select Committee’s inquiry into corporate governance? Tom, if you have not done so yet you need to get a move on because today is the deadline for submissions!

The Government does of course have the power to rectify many of the ills of the UK stock market so ignoring Parliament is not wise. Or another question for Tom: what else have you done to get some changes made? Met with AIM management as we have done recently for example? Put proposals in writing in a coherent form as to what needs to change?

Instead of attacking someone who is trying to do something about the problems, you should be supporting us.

And to remind you, these are the personal views of the writer alone as are my other comments on this blog.

Roger Lawson

Some Interesting Meetings – Palace Capital, Dunelm, NCC

There are some interesting meetings in prospect for investors. Firstly, I notice Simon Thompson has tipped Palace Capital (PCA) in this week’s Investors Chronicle. He suggests this property investment company’s half year results at the end of November “are likely to make a good read”. Now it just so happens that Palace Capital are presenting at two ShareSoc events in November (in Richmond and in Manchester). So that would be a good opportunity to learn more about the business. See this web page for more information and links to the individual events registration pages: .

The first one is on the 1st November so please register soon if you wish to attend.

The Dunelm (DNLM) Annual General Meeting is coming up on the 22nd November. At the last AGM there was considerable debate about the remuneration scheme including the LTIP. Otherwise it was not a particularly useful meeting with the Chairman hurrying through the formal business. There is a full report on it on the ShareSoc Members Network. However it was held in London, albeit at the somewhat inconvenient time of 9.30 am. This year they have gone one better to discourage investors from attending. It will be held in Syston at 9.00 am. Syston is near Leicester for those not familiar with the location of Dunelm’s Store Support Centre. I don’t personally object to such locations and in this case it may help staff to attend. But the timing is abominable.

NCC (NCC) is another company who likes to hold their AGM at remote locations at inconvenient times (in this case in Manchester at 11.00 on the 22nd September this year). The company also missed talking about the bad news they issued on the 20th October in a “first four months” trading statement (why not a few weeks earlier for the first quarter?).

The statement caused the share price to abruptly fall and at the time of writing is down 39%. The announcement indicated three large contract cancellations and other difficulties. But the odd thing is that although “the growth in profitability will now be more biased towards the second half” it also says that it “remains in line with the Board’s expectations”. It would seem at least one analyst has reduced their forecast however. I am sure a few investors might like to have quizzed CEO Rob Cotton on this apparent anomaly. It will now have to await the next AGM.

The writer holds shares in some of the above.

Roger Lawson

More Power Requested for Ultimate Investors

ShareSoc has issued a press release noting our submission to the Parliament BIS Committee Inquiry into Corporate Governance. It requests more power for ultimate investors. Here is a brief summary of the contents (the press release includes a link to our full submission).

We suggest that the goal should be to get more power back to the ultimate investors. This can be achieved by:

– Ensuring that individual shareholders can exercise their rights, even if their shares are held in nominee accounts.

– Providing government and/or NGO support for representative organisations such as ShareSoc.

– Requiring a binding annual vote on the remuneration report and requiring companies to disclose the Pay Ratios.

– Introducing shareholder committees as outlined in the paper by Chris Philp MP “Restoring responsible ownership” so long as a representative of individual investors is included.

The views of individual shareholders tend to be under-represented. Part of the problem is the way that individual shareholders are disenfranchised through the way nominee accounts operate.

Individual investors do not have effective power to curb directors’ pay. Fund managers, who are merely intermediaries in the ownership chain, have usurped this power: but have patently failed to provide effective stewardship. They are responsible for creating many of the current problems, yet to date seem to have avoided blame. Why should we expect them to suddenly change their behaviour? It is time for a strong input from Government and regulators of the London Stock Exchange to change the framework in which we are currently operating. The goal should be to get more power back to the ultimate investors and hence make capitalism work for everyone.

Our full press release on our submission to the BIS Committee is present here:

Roger Lawson 25/10/2016