The magic number that could save you a FORTUNE

Keeping investment costs low is always important, while in turbulent times when most portfolios are falling, it is absolutely integral to preserving your wealth.

One way to find out if you’re getting your money’s worth is to look for a little-known number called the active share.

Investment experts use it as an indicator of how hard their fund managers work for them. Then, if they find that their fund managers don’t justify their fees, they can ditch them for a cheaper option. It is a tool that ordinary investors can also use.

Beware of closet trackers

There are two main approaches to take when investing. You can either buy an active fund, which is a selection of investments that have been carefully chosen by an expert fund manager. Or you can go for a passive fund, which buys all the investments in a particular index. For example, a passive fund that tracks the FTSE 100 simply buys all 100 UK-listed companies in that index.

Active funds tend to cost more because you pay for someone to pick your investments. The hope is that their expert knowledge will enable them to spot the best investments and achieve returns higher than the index they are compared to.

But this is what investors should pay attention to. Sometimes active fund managers simply build a portfolio that looks nearly identical to the index they are trying to outperform.

These funds are so-called closet trackers – because they dress up as active funds, but in reality do nothing more than embrace their benchmark.

“Given the additional fees charged by actively managed funds, it’s worth little to invest in a fund that consistently looks like the benchmark it’s trying to beat,” said Ryan Hughes, head of investment partnerships at investment platform AJ Bell.

New analysis by investment platform Interactive Investor shows that ten percent of all investment funds are ‘closet trackers’.

The power of the active share

The active share is a measure of how different a fund’s portfolio looks compared to its benchmark. It is expressed as a percentage. So, for example, if a fund has an active share of 40 percent, 60 percent of its holdings will be the same as a passive fund tracking the same benchmark.

Jason Hollands, general manager of asset manager Evelyn Partners: ‘The active share is in fact the extent to which a portfolio deviates from the reference index.

“A high active share is therefore an indication that the fund is taking bolder positions than the index in hopes of outperforming investors.”

How do you choose the right number?

As a rule of thumb, if you pay for active fund management, you should expect a high active share. Hughes says that funds with an active share of more than 80 percent should be seen as ‘sufficiently different from the benchmark’.

He adds, “Under that, investors would probably be better off investing in a low-cost tracker fund.” Rob Morgan, investment analyst at broker Charles Stanley, believes that more than 70 percent active share is ‘a good sign’.

“There is no right or wrong number,” Morgan says. ‘But we like to see a high figure to demonstrate the differentiation of an active investment approach.’

James Yardley, research analyst at investment group Chelsea Financial Services, says investors should consider active share over time.

“There may be times when good fund managers pull back and reduce their active share to 60 percent due to market conditions, but then they can increase their active share to 80 percent in the future,” he explains.

Ask your broker for the figure

Some fund managers, such as Edinburgh’s Baillie Gifford, list their active share on their monthly factsheets, but others do not.

“If I was cynical — which I am — it’s no surprise that the fund firms that do publish this ratio tend to have high active shares,” said Kyle Caldwell, collectives editor at investment platform Interactive Investor.

“Fund funds are not required to publish this ratio, so it is not widely available. But it should.’

Chelsea’s Yardley suggests asking your fund broker if the active share is not visible on your fund factsheet. There are also some quick checks you can do to give you an idea of ​​whether a fund has a low or a high active share:

• Monitor fund performance: If a fund closely monitors the performance of its benchmark, it may be a closet tracker. If it has good and bad years compared to the index, it probably has a high active share.
• Check the number of holdings: A concentrated fund with between 20 and 40 holdings is likely to have a high active share. Yardley says a fund with more than 150 holdings is often a red flag for a closet tracker.
• Look at the top ten stocks: If the list of the top ten stocks in the fund is simply a list of known stocks, the active share is likely to be low.

Save costs with cheaper trackers

If you discover that some of the funds you own have low active shares, replacing these funds with cheaper tracker funds can save you a lot of money and provide comparable investment results.

Hughes says investors can pay about 0.85 percent per year for most closet trackers. Replacing them with low-cost passive funds that charge just 0.07 percent a year, such as the iShares FTSE 100 tracker, would save about £150 in fees each year, Hughes says. This is based on an investment of €20,000.

Hughes adds, “These savings are significant and will make a huge difference to investors’ wealth in the long run.”

Choice of low-cost funds by experts

There are several inexpensive tracker funds that you can use to replace your closet trackers. In addition to the iShares FTSE100 tracker, Hughes proposes the Fidelity Index World fund, which has an ongoing charge of 0.12 percent per annum and gives exposure to the world’s largest companies. Last year it fell 2.9 percent, but in three years it has increased by 34 percent.

A warning

It is worth remembering that while active share is a useful measure, it should not be used to judge the value of a fund on its own. You should also not assume that a high active share automatically equals the outperformance of your investments.

“It’s an ingredient in the mix,” said Charles Stanley analyst Morgan. ‘Active share doesn’t make something good or bad. It’s just something to keep in mind when assessing an investment fund.’

‘A high active share does not mean that an investment fund will perform better’, Ryan Hughes agrees. “It just tells you that the performance will probably be different from the index it’s trying to beat. It could be better, but also worse.’