Investing in funds: is the manager on board?

Research has found that if a fund manager has a lot of their own money at stake, then they will focus on beating the market, rather than attracting new cash.

There are many conflicts of interest in the financial industry that investors need to watch out for. But one of the most persistent and insidious is in how fund managers get paid. Most managers get the bulk of their pay based on how much money they manage (their assets under management, or AUM). The problem is that "gathering" assets ie, getting as many people as possible to buy your fund involves different skills and priorities from investing for the best returns. There is, of course, an overlap a strong track record will help persuade people to invest with you. But it can also work against investors' best interests.

For example, say you run a fund investing in tiny companies (microcaps). Your AUM has to stay small if you have billions of pounds under management, you simply won't be able to invest in such small stocks. So if your strong performance in microcap stockpicking attracts a flood of cash to your fund, you have a dilemma. Do you cap the AUM, stick with the strategy, and leave all that money on the table, or do you extend your strategy into areas you aren't quite as comfortable with to boost your own pay packet? In short do you focus on returns, or asset-gathering?

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John Stepek

John Stepek is a senior reporter at Bloomberg News and a former editor of MoneyWeek magazine. He graduated from Strathclyde University with a degree in psychology in 1996 and has always been fascinated by the gap between the way the market works in theory and the way it works in practice, and by how our deep-rooted instincts work against our best interests as investors.

He started out in journalism by writing articles about the specific business challenges facing family firms. In 2003, he took a job on the finance desk of Teletext, where he spent two years covering the markets and breaking financial news.

His work has been published in Families in Business, Shares magazine, Spear's Magazine, The Sunday Times, and The Spectator among others. He has also appeared as an expert commentator on BBC Radio 4's Today programme, BBC Radio Scotland, Newsnight, Daily Politics and Bloomberg. His first book, on contrarian investing, The Sceptical Investor, was released in March 2019. You can follow John on Twitter at @john_stepek.