It pays to back the star fund managers

When it comes to buying an actively managed funds, Sarah Moore explains why it pays to look for star quality.

When Neil Woodford, probably the UK's best-known fund manager, left Invesco Perpetual to set up on his own, investors withdrew £5bn over a 12-month period from the funds he had previously managed. It's a hazard common to any business with a "star manager". As a result, fund-management groups are increasingly using teams of managers to protect against investors deserting them to follow "stars" more than 75% of US mutual funds (6,219 out of 8,072) now have at least two managers, says data provider Lipper.

The bad news for fund-management groups is that investors who back a star manager may have the right idea. In a paper published in the Financial Analysts Journal, Eitan Goldman, Zhenzhen Sun and Xiyu Zhou analysed 3,895 equity funds between 1990 and 2012. They found that funds run by a single manager had far more concentrated portfolios and tended to perform better, despite having higher costs, than funds managed by multiple managers.

Indeed, it seems the more cooks there are stirring the broth, the worse performance becomes. Single-manager funds beat funds with two managers by an average of 0.41% per year, and team-led funds by 1.3% per year. The results held when a fund changed its structure too when a fund went from having multiple managers to a single manager, portfolios become more concentrated and performance improved, and vice versa.

Subscribe to MoneyWeek

Subscribe to MoneyWeek today and get your first six magazine issues absolutely FREE

Get 6 issues free

Sign up to Money Morning

Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter

Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter

Sign up

The results are perhaps unsurprising. Previous studies have shown that high-conviction funds those whose portfolios were heavily invested in a few carefully chosen big bets tend to beat low-conviction ones. Having more than one manager clearly increases the risk that the best ideas will be diluted and investment decisions will be made by committee rather than from conviction.

We've often argued that if you want active management (and the higher costs that entails), you have to find a manager who makes bold bets to beat the market, you have to do something different. So when looking for a fund, keep an eye on the number of holdings, the size of the main holdings and ideally look for one individual to be putting their neck on the line.

Sarah is MoneyWeek's investment editor. She graduated from the University of Southampton with a BA in English and History, before going on to complete a graduate diploma in law at the College of Law in Guildford. She joined MoneyWeek in 2014 and writes on funds, personal finance, pensions and property.