Are You Following the Smart Money?
Where is the smart money going? There are many different views on ideal investment strategies but one way to cut through the clutter is to follow the trail. And increasingly, investors are bounding along the path towards passive money management.
When we refer to ‘smart’ money within the investment world we mean funds controlled by institutions, fund managers, central banks and other financial professionals. Where the smart money is going can therefore be instructive for all investors – and sometimes retail investors quickly follow the way.
The rapid rise of passive investments in the US
In December 2019 it was revealed that the massive Californian pension fund Calpers was further shifting how and where its equity holdings would be allocated. Although a great deal of its $187 billion in equity assets are already passively managed in-house, they were poised to reallocate another $28.1 billion to passive instruments and dump most of their external equity fund managers.
Stock pickers are under severe pressure. This latest rationalisation exemplifies a trend that has seen $1 trillion being taken from active US equity funds over the past decade, according to the FT. And research outfit Greenwich Associates asserts that: “Investments in ETFs by US institutions significantly increased in 2018, with average allocations jumping to nearly 25% of total assets, up from almost 19% in 2017.”1
Strong passive growth in the UK, too
The US leads in accepting the indisputable merits of passive investing, but the UK is also veering away from active equity management – albeit not quite as swiftly. In the most recent annual survey by the UK’s Investment Association the growth in passive assets has increased from 16% of managed assets in 2008 to 26% of managed assets in 2018. This sounds marginal but still reflects a 62.5% increase overall of assets being passively managed over these 10 years.
UK retail investors have benefitted from greater transparency with the introduction of the Retail Distribution Review (RDR) at the end 2012. This has led to a much greater uptake of passive investments. According to the Investment Association report, between 2007 and 2012 just 8% of net retail sales went to tracker funds – this soared to 34% in the 2013-2018 period.
The case for passive over active management
Much of the shift towards passive fund management is driven by irrefutable logic. The numbers simply add up, but they rarely do for active managers over the long term. For example, over 15 years more than 90% of large cap funds underperformed the S&P 500 index.2
When we refer to ‘smart’ money within the investment world we mean funds controlled by institutions, fund managers, central banks and other financial professionals. Where the smart money is going can therefore be instructive for all investors – and sometimes retail investors quickly follow the way.
The rapid rise of passive investments in the US
In December 2019 it was revealed that the massive Californian pension fund Calpers was further shifting how and where its equity holdings would be allocated. Although a great deal of its $187 billion in equity assets are already passively managed in-house, they were poised to reallocate another $28.1 billion to passive instruments and dump most of their external equity fund managers.
Stock pickers are under severe pressure. This latest rationalisation exemplifies a trend that has seen $1 trillion being taken from active US equity funds over the past decade, according to the FT. And research outfit Greenwich Associates asserts that: “Investments in ETFs by US institutions significantly increased in 2018, with average allocations jumping to nearly 25% of total assets, up from almost 19% in 2017.”1
Strong passive growth in the UK, too
The US leads in accepting the indisputable merits of passive investing, but the UK is also veering away from active equity management – albeit not quite as swiftly. In the most recent annual survey by the UK’s Investment Association the growth in passive assets has increased from 16% of managed assets in 2008 to 26% of managed assets in 2018. This sounds marginal but still reflects a 62.5% increase overall of assets being passively managed over these 10 years.
UK retail investors have benefitted from greater transparency with the introduction of the Retail Distribution Review (RDR) at the end 2012. This has led to a much greater uptake of passive investments. According to the Investment Association report, between 2007 and 2012 just 8% of net retail sales went to tracker funds – this soared to 34% in the 2013-2018 period.
The case for passive over active management
Much of the shift towards passive fund management is driven by irrefutable logic. The numbers simply add up, but they rarely do for active managers over the long term. For example, over 15 years more than 90% of large cap funds underperformed the S&P 500 index.2
Percentage of large cap funds that underperformed the S&P 500
Source: S&P Dow Jones Indices, Dec 2018.
This underperformance of active funds is evident in good times and bad. Netwealth research of Morningstar figures – which we detailed here – shows that during the financial crisis less than half (48%) of UK active funds outperformed the tracker. We concluded that picking the active managers who can outperform is notoriously difficult, and that consistency of fund outperformance after costs and fees is rare.
In fact, a difference of just 1% in fees can make a remarkable impact to investments over time.
What you should do
To go with the smart money and access the world of passive investing you have options. You can go it on your own, but as we examine here, it’s not always as easy or as cheap to do it yourself.
Entering the world of passive equity investing does require some decisions. To be successful you can’t be an inactive participant. The Netwealth team can decide how and where to allocate your capital at a risk level that suits you. Although we mainly invest in passive investments – so you benefit from a truly competitive cost – our approach is far from passive, as we diligently act on your behalf.
Also, you should be aware of the bigger picture and the value of taking a complete view of your finances. After all, many factors are within our control when investing, as this article highlights so it makes sense to optimise how you plan for the future, rather than trying to outperform the markets.
Please remember that when investing your capital is at risk.
1 Source: Greenwich Associates. https://www.greenwich.com/asset-management/etfs-us-institutions-new-tool-choice-portfolio-construction
2 Source: S&P Dow Jones Indices, Dec 2018. https://www.cnbc.com/2019/03/15/active-fund-managers-trail-the-sp-500-for-the-ninth-year-in-a-row-in-triumph-for-indexing.html
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