How to know when it is time to sack your fund manager

It’s been a tough period to be an investor in UK equities as home-grown stocks continue to underperform their international peers.

The FTSE 100 may have reached an all-time high in recent weeks but many UK-focused funds have been underperforming their benchmarks over longer periods.

Fund management veteran Nick Train, manager of the UK-focused Finsbury Growth & Income Trust, recently apologised for the “poor” performance of the portfolio after it underperformed its benchmark.

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The investment trust had a share price total return of 2.7% in the six months to 31 March 2024 compared with 6.9% in the FTSE All Share Index.

Train said he was frustrated by the “malaise gripping the UK equity market,” which he believes is only “partly justified.”

He blamed a lack of exposure to technology companies in the portfolio since the pandemic but says this has since been rectified by backing credit reference agency Experian and property website Rightmove as well as strong consumer brands such as Fever Tree. 

Train says he remains optimistic of better performance due to the prospects of valuations in the UK markets compared with “those of similar businesses quoted on more fashionable stock markets.”

The Finsbury Growth & Income Trust is just one example of UK-focused portfolios that have struggled in recent years due to a lack of technology stocks listed in London compared with the rise of the Magnificent 7 across the pond in the US.

The latest Spot the Dog report from investment platform Bestinvest – which reveals funds that have failed to beat their benchmark by 5% or more over three consecutive calendar years – found 34 portfolios holding £12 billion of investors’ wealth were from the UK, up from five previously.

That doesn’t necessarily mean it is time to ditch these funds though as there may be strong reasons for underperformance.

Here is how to know if it is time to sack your fund manager.

Think long-term

Investment performance is best judged over the long-term rather than a short period.

That means judging a fund over a three to five-year period rather than just a few months of a year.

This then gives a fund manager time to overcome volatility in the markets.

“It can be easy to be sucked into the constant barrage of market commentary and think you need to keep tinkering with a portfolio,” says Rob Morgan, chief Investment analyst at Charles Stanley.

 “That’s not the case. Making too many changes or being too reactionary can result in higher trading costs and eat into your returns in the long run. 

 “Try to think about the long term – are you still happy with the make-up of your portfolio for the next five years? That will help you decide whether you are making the changes for the right reasons, as shorter-term market moves are nigh on impossible.”

Check the fund against the relevant benchmark

Don’t just focus on the fund’s own performance but check how it is doing compared with its peers and its benchmark.

There may be an issue if it is consistently failing to beat its benchmark but if similar funds are also struggling then there may be other market issues at play.

“You can then make an informed judgment about whether a fund has mostly done well or badly because of where it invests or, in the case of an actively managed fund, whether the fund manager has added or detracted value,” adds Morgan. 

“All active will undergo spells of underperformance, so a period of relatively poor returns is not necessarily a reason to sell, especially over a short timeframe. However, it can be a prompt to consider whether there are any preferable alternatives.”

Is the fund manager in fashion?

Different management styles and assets can have their turn in the spotlight. For example, US-focused funds are doing well currently due to the high exposure to technology stocks in the country.

That may not last forever though.

In the case of Train, Morgan says he has a “distinctive style and a relatively concentrated portfolio of a small number of stocks,” which means company-specific missteps can have a big impact on performance. 

Morgan adds: “Many of the stocks he owns in consumer staples and other defensive areas with stable growth have been affected by higher interest rates, so it’s possible his particular brand of investing could work particularly well if inflation and interest rates fall way quicker than currently factored in.”

Check a fund’s factsheets and commentary to get an understanding of the reason behind a weak or even strong performance to see if you still back the fundamentals.

Even the best performing managers – including Warren Buffett – have endured periods of underperformance at some point in their careers and this can be down to a variety of factors, says Jason Hollands, managing director of Bestinvest.

“In some cases, this may be poor judgement, a change of manager or alteration in strategy, perhaps due to a significant movement in the size of the fund which has proven disruptive, in which case a switch could be justified,” he says.

“In other cases though, it may simply be that the manager’s style and process is out of favour with recent market trends.”

Hollands warns that problems can multiply when investors start moving elsewhere, as it makes the job of managing a portfolio more challenging when a fund is in outflows and time is taken selling down positions to return cash, rather than finding and backing new positions. 

“There is a nothing wrong with showing some humility and recognising that investor loyalty is being tested,” adds Hollands.

“Better still though, a mangers should explain why performance has struggled and be transparent in managing people’s expectations as to whether they can see the outlook for their approach is rapidly improving or likely to require more patience.”