Forget 'hybrid' funds, you're still better off with a tracker

Chastened by the furore over management fees, many fund managers are now peddling 'hybrid' funds. But as Piper Terrett explains, you're still better off with a tracker.

Last year was the year when charges became "the all important issue" in the fund management industry, says Moira O'Neill in Investors Chronicle. The True and Fair Campaign claimed that "smoke and mirrors" were being used to confuse customers.

Little wonder, then, that an increasing number of investors are opting for low-cost tracker funds and exchange-traded funds (ETFs) rather than more expensive actively managed funds. According to the Investment Management Association (IMA), last year sales of trackers reached record levels accounting for 8.7% of total funds under management and up from 7.4% in 2011.

However, these "same City stalwarts, who made their millions skimming the cream off the top of investors' milk", have "seen the light", says Emma Wall in The Sunday Telegraph. They've launched hybrid funds that combine low fees and active management rewarded by a cut of any outperformance over the benchmark.

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The Vinculum Global Equity Fund, for example, run by Nigel Legge, the former head of Liontrust Asset Management, launched last January. It charges a fee of 0.25% plus 20% of any outperformance against the MSCI World Total Return index. "If we don't deliver, we don't get paid," says Legge. Last year, notes Wall, an investor who put in £1,000 would have enjoyed a 12.8% return and paid 1.54% in fees.

But while that's lower than some managed fund charges, this is still more expensive than typical tracker fees of 0.25%-1% per year. As Jeff Prestridge said at the time of the launch on, it's no more than "a step in the right direction".

These hybrid funds are an interesting idea from a marketing perspective, but simpler, lower-cost trackers and ETF funds remain far better options. The danger is that investors may find themselves spending just as much money on hybrid fund fees as they would on a plain vanilla fund.

For a cheap managed fund option, you could try Terry Smith's Fundsmith. Launched in 2010, it cuts costs by selling directly to investors instead of advisers, notes Wall. A long-term buy-and-hold approach also reduces trading costs.

If you buy the fund directly through Fundsmith, there are no upfront or performance fees and you pay a flat 1% or 1.5% a year, depending on whether you buy direct or via a fund supermarket. This is roughly 0.5% less than with a typical fund in the IMA Global sector. With a return of 12.5% in the last year, it's worth a look.

Piper Terrett is a financial journalist and author. Piper graduated from Newnham College, Cambridge, in 1997 and worked for Germaine Greer and for Adam Faith’s Money Channel before embarking on a career in business journalism. 

She has worked for most top financial titles, including Investors Chronicle, Shares magazine, Yahoo! Finance and MSN Money. She lectures part-time at London Metropolitan University and is the author of four books.