How to pick funds

The sim­ple way to sort through thou­sands of prod­ucts to cre­ate your per­fect port­fo­lio

Shares - - DISCLAIMER -

Sav­ing money ei­ther as a lump sum or on a reg­u­lar ba­sis is an ex­cel­lent first step to­wards hav­ing a healthy and wealthy time in later life. The sec­ond step is choos­ing where to put your money.

This task isn’t al­ways straight­for­ward as there are more than 2,000 in­di­vid­ual com­pa­nies on the Lon­don Stock Ex­change and more than 3,000 unit trust and Oeic (open-ended in­vest­ment com­pany) funds avail­able to UK in­vestors alone.

Add in hun­dreds, if not thou­sands, of in­vest­ment trusts and ex­change-traded funds and you’re drown­ing in in­vest­ment op­tions.

To help you nav­i­gate this busy land­scape, we will now ex­plain how to pick ac­tively-man­aged funds, fo­cus­ing purely on unit trusts and Oe­ics.

You will learn how to fil­ter the wide range of funds and find the prod­ucts that match your in­vest­ment re­quire­ments.

Our guide will ex­plain which de­tails are most im­por­tant when read­ing fund doc­u­ments and the vi­tal bits of in­for­ma­tion which many in­vestors ne­glect to ob­tain when re­search­ing prod­ucts.

STEP 1: IN­VEST­MENT GOAL AND TIME HORI­ZON

Pick­ing funds is eas­ier than you might think. It re­quires a sys­tem­atic ap­proach and a short amount of time for in-depth re­search once you’ve built a short list of prod­ucts that meet your needs.

You should al­ways start by writ­ing down your in­vest­ment goal and time hori­zon for achiev­ing that goal; i.e. why you want to in­vest, how much you want to make and when you will need to ac­cess that money.

For ex­am­ple, let’s say you are a 40 year old who wants to build up an in­vest­ment port­fo­lio that will pay for your child’s univer­sity ed­u­ca­tion in 10 years’ time; you might al­ter­na­tively be a 50 year old who wants to have a de­cent sized ISA in 15 years’ time to bol­ster a work­place pen­sion.

You then need to es­tab­lish your ap­petite for risk. For ex­am­ple, it’s no good buy­ing a fund with high risk as­sets like biotech firms or min­ers if you have to rely on that money in five years’ time to pay cer­tain bills. Those types of busi­nesses can gen­er­ate high re­turns – but they can also ex­pe­ri­ence large losses if drug tri­als fail or com­mod­ity prices are weak, for ex­am­ple.

In con­trast, buy­ing a very low risk fund may not be ap­pro­pri­ate if you need to make 12%+ an­nual re­turns in or­der to hit your in­vest­ment goal. You need to find a bal­ance be­tween tak­ing on enough risk to gen­er­ate the de­sired re­turns and not be­ing too bold so as to risk los­ing a large chunk of your money.

Im­por­tantly, you may need to re­think your time hori­zon if your fi­nan­cial goal re­quires you to take ex­ces­sive risks. It is bet­ter to be in­vested for a bit longer than to go all guns blaz­ing with high-risk in­vest­ments and hope noth­ing goes wrong.

STEP 2: IN­COME OR GROWTH OR BOTH?

In­vestors fall into dif­fer­ent camps. Some want to gen­er­ate a reg­u­lar in­come from their in­vest­ments, par­tic­u­larly peo­ple in re­tire­ment. Oth­ers don’t need in­come at present and sim­ply want to grow the value of their in­vest­ments over time. And there are peo­ple who want a bit of both.

It is fairly easy to see which funds of­fer in­come, growth or both as they will ei­ther have the styles in their prod­uct ti­tle or it will be clearly ex­plained on their web­site. One way to fil­ter the pack is to use an on­line screen­ing sys­tem such as the one of­fered by fi­nan­cial data spe­cial­ist Morn­ingstar. For ex­am­ple, it pow­ers the fund screen­ing sys­tem on AJ Bell Youin­vest’s web­site where you can you search by ge­o­graphic fo­cus such as funds that in­vest in Asian com­pa­nies; as well as fil­ter­ing by cat­e­gory such as bond fund, prop­erty fund or US small cap equities. To find funds that pay a reg­u­lar in­come via Youin­vest’s fund screener, click the ‘Inc’ box on ‘Dis­tri­bu­tion Sta­tus’ and that will in­stantly knock out funds that ei­ther don’t pay a div­i­dend or coupon, or ones that es­sen­tially roll up any pay­outs back into your fund hold­ing. You can then nar­row the search by us­ing the va­ri­ety of drop down menus in­clud­ing the name of the com­pany run­ning the fund such as Bail­lie Gif­ford or Jupiter.

IT’S NO GOOD BUY­ING A FUND WITH HIGH RISK AS­SETS IF YOU HAVE TO R ELY ON THAT MONEY IN FIVE YEARS’ TIME TO PAY CER­TAIN BILLS SOME WANT TO GEN­ER­ATE A REG­U­LAR IN­COME FROM THEIR IN­VEST­MENTS, PAR­TIC­U­LARLY PEO­PLE IN RE­TIRE­MENT. OTH­ERS DON’T NEED IN­COME AT PRESENT AND SIM­PLY WANT TO GROW THE VALUE OF THEIR IN­VEST­MENTS OVER TIME

STEP 3: DON’T LIMIT YOUR­SELF TO ONLY BUY­ING FUNDS THAT HAVE DONE WELL IN THE PAST

There will be a temp­ta­tion at this point to pick the funds which have the best past per­for­mance data. Many peo­ple as­sume a fund that has done well in the past will con­tinue to thrive in the fu­ture. They may also ig­nore funds that haven’t done well, pre­sum­ing they are in­fe­rior prod­ucts.

Don’t make this mis­take. You need to un­der­stand the big­ger pic­ture, namely how the broader mar­kets were per­form­ing and whether a fund should have un­per­formed or out­per­formed due to the style of their in­vest­ment strat­egy ei­ther be­ing out of, or in, favour. More on that point later.

LOOK AT AN­NUAL DATA

We like to look at dis­crete an­nual per­for­mance data over at least five years; a 10 year pe­riod is even bet­ter. That will show you if a fund has been fairly con­sis­tent with its re­turns or whether it sim­ply had one or two good years over a decade which made its head­line data (also known as cu­mu­la­tive data) look at­trac­tive.

For ex­am­ple, let’s say a fund has gone up 80% over 10 years. It may have seen eight years with neg­a­tive or flat per­for­mance but had two amaz­ing years (per­haps be­cause the over­all mar­ket was soar­ing) with which to achieve that large over­all per­for­mance when look­ing at a 10 year view.

‘It is very easy to be lucky over a short pe­riod of time,’ says Ryan Hughes, head of fund se­lec­tion at AJ Bell. ‘You see a lot of fund man­agers that ex­hibit ex­actly that char­ac­ter­is­tic.

‘They have a very strong pe­riod of per­for­mance over a very short pe­riod of time. The skill of some­one re­search­ing and choos­ing a fund is to de­ter­mine whether that per­for­mance was gen­uine skill or sim­ply just good for­tune,’ he adds.

‘I would equate that to go­ing to the casino. You might have a one-off visit and make a profit. That is very lucky. If you go to the casino week af­ter week, I would imag­ine over time the casino would win – so there is no ev­i­dence of skill in that ap­proach. Over the longer term skill is sep­a­rated from luck. It is gen­uinely dif­fi­cult to be lucky over a long pe­riod.’

LOOK AT WHAT’S DO­ING WELL AND WHAT ISN’T

It is im­por­tant to recog­nise that not all man­agers who are per­form­ing poorly are do­ing a bad job. It may well be that their in­vest­ment style is out of favour.

They might be value in­vestors who only buy stocks when they are re­ally cheap in the be­lief that the mar­ket has priced them in­cor­rectly. They may strug­gle when the mar­ket is chas­ing growth stocks, even ones that are trad­ing on high val­u­a­tions.

The fund will stand a chance of hav­ing a stronger pe­riod of per­for­mance when its style comes back into favour.

For ex­am­ple, JOHCM UK Op­por­tu­ni­ties Fund

(GB00B95HP811) is very strict on val­u­a­tion and will sell a hold­ing when its val­u­a­tion looks ex­ces­sive. You may have heard the phrase ‘run your win­ners’, re­fer­ring to in­vestors hold­ing on to their best per­form­ing stocks in the hope that an up­wards share price trend will re­main in­tact. For JOHCM, it doesn’t think twice about sell­ing its win­ners when they look over­val­ued.

It has un­der­per­formed the FTSE All-Share bench­mark on a one, three and 12 month ba­sis, so too on a five year ba­sis. That’s be­cause its value-led ap­proach is not in kil­ter with cur­rent mar­ket trends. In­deed, one fifth of its port­fo­lio is in cash, wait­ing for op­por­tu­ni­ties to emerge should val­u­a­tions start to fall across the mar­ket. On a longer term ba­sis, the fund has out­per­formed the in­dex four out of seven years up to the end of 2016

IT IS IM­POR­TANT TO RECOG­NISE THAT NOT ALL MAN­AGERS WHO ARE PER­FORM­ING POORLY ARE DO­ING A BAD JOB. IT MAY WELL BE THAT THEIR IN­VEST­MENT STYLE IS OUT OF FAVOUR.

Newspapers in English

Newspapers from UK

© PressReader. All rights reserved.