Here’s what I love about owning an equity fund. Every day thousands of employees wake up early and commute. They bust a gut winning clients, optimising supply chains and coding, all of which generate earnings.
These accrue to me — even when catching a wave or a few winks on the sofa afterwards. (As I did last week upon reading that bosses are done with flexible working.) Shareholders receive a slice of the spoils and not a Zoom call must we endure.
So a big thanks to all those readers who work for one of the 1,245 holdings in my funds. Already this year your efforts have added £17,000 to the value of my portfolio — hopefully yours too!
This also explains my preference for stocks over government bonds. I way more trust the 140mn employees of listed companies globally to jump out of bed each morning than those whose job it is to collect tax.
Needless to say, though, there is a huge difference in quality across the myriad firms in my exchange traded funds. Hence, returns are dispersed too. It is for this reason that active managers justify their existence.
If only it were easy. Winning stocks are hard to identify ahead of time, and I have written before about their questionable persistence. Likewise, underperformers do not stay down forever.
Stock pickers reckon it is easier to spot a dog, however. Even if they miss the next Nvidia or Tesla, at least they can make relative gains by weeding out the losers from an index.
So when I first read about the boom in so-called active exchange traded funds, this is what I assumed they were offering. We used to call it benchmark optimisation, or tilting, when I was a pup.
Index trackers, but screening out the rubbish based on automated criteria such as falling revenues, low margins, high debts, or whatever. But no. Active ETFs boast real stock pickers gunning for “long term capital growth”.
Seriously? Like real-life analysts and portfolio managers making my ETF increase in value — rather than just outperforming the Footsie or Nikkei? Absolutely. But wait, there’s more as those telemarketing ads say.
Unlike old mutual funds that only price daily and charge like a rhino, active ETFs can also be traded on-exchange like stocks and are a third of the price. Sounds too amazing to be true, right?
To find out, I launched Excel and downloaded all the holdings of the new iShares World Equity Enhanced ETF, as well as their weights (as of January 21 in the afternoon after my run along the beach).
Alongside I did the same for the passive version: the iShares Core MSCI World. Both have MSCI World as a benchmark. Where Core “seeks to track” it, however, the active ETF aims to grow “your investment”.
I noted their total expense ratios too. The bog-standard ETF charges 0.2 per cent annually and the whizz-bang one 0.3 per cent. At first glance, many readers would consider the latter a bargain.
Active management and superior returns for only 10 more basis points? It seems madness to refuse when put like that. Plus you can trade in and out of active ETFs whenever you want.
Trouble is, active ETFs won’t make you any more money, on average. What they will do is hasten the demise of old-school active funds — the sort I used to run charging 50 to 100 basis points. Mostly, though, they are designed to upsell ETF investors.
Let me explain. The majority of active funds underperform the index, as we all know. Active ETFs will be no different. Like for like, therefore, it is a no-brainer to buy the cheaper product.
Meanwhile, investors who believe in efficient markets will keep buying the lowest-cost passive ETFs. But some waverers may be tempted by a new yacht and say heck, these active funds don’t cost that much more.
This is the trick to avoid. Take the two iShares funds, for example. The active one still has more than 400 holdings, which — ironically — is roughly the number of stocks you need to hold in order to guarantee not underperforming an index, as I’ve written previously. It’s a passive fund, in other words.
Both the active and Core ETFs have the identical top nine names. They’re also in exactly the same order, with tiny exceptions depending on when you look. Incredibly, none of the active exposures are more than 0.6 per cent more or less than the passive equivalents.
Indeed, the riskiest bets in the whole active portfolio are two 0.63 per cent overweight positions. Wow! How radical to raise Bank of America from 23rd in the Core fund to 10th. And move ABB from 141 to 121!
What about those terrible companies which are allegedly so obvious for active fund managers to exclude? Berkshire Hathaway is the largest underweight position in the active ETF at minus 0.55 per cent versus the Core fund.
A holding of nothing, then? Er, no — the active fund still owns 0.3 per cent, despite Berkshire being its least favourite stock. The next two biggest underweight positions — Visa and Exxon Mobile — are even smaller. But not zero.
Sellers of active ETFs will say this is risk minimisation. Fine, but not to the degree that essentially these funds are index trackers. Nor can active managers beat the index even if they took more risk.
No, active ETFs are about nudging fees higher. And like sparking water for $5 versus still for $4 — many people will conclude: why not?
The author is a former portfolio manager. Email: [email protected]; X: @stuartkirk__
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