Active share a crude metric when used in isolation, investors say

Although active share is a longstanding tool for judging fund managers, it has gained popularity as a measure for weeding out so-called ‘closet trackers’, which advertise as more expensive actively managed funds, but in reality hug the index.

A study from asset management firm SCM Private suggested such funds are widespread, with 46 per cent of UK retail funds closet-tracking the FTSE All-Share Index. It defined a closet tracker as a fund with an active share of less than 60 per cent.

But despite active share’s sticker appeal, investment consultants have cautioned the measure can be misleading on its own and argue further research is essential when determining a good-value fund manager.

Nicola Ralston, director of PiRho Investment Consulting, recommended using a larger number of passive funds to restrain cost, while using a smaller set of highly active funds to add value. This means committing to fewer limits on what the active managers can do, she added.

“Don’t complain about a fund being a closet tracker if the constraints that you place on the manager are so tight that the fund is bound to be a closet-tracking fund,” she said.

Nick Secrett, investment director at consultancy PwC, said the first priority was not looking at active share, but making sure you have got a manager who fits what you want your scheme to achieve.

“You’ve got to sort of back your manager, really,” he said.

Investment house Majedie Asset Management began putting active share on its factsheets last month, after increasing demand from investors.

Rob Harris, chief executive officer, said: “Our position is that yes, transparency does help, and yes, active share is an informative metric, but it’s just relatively crude when used in isolation.”

The consultants and managers suggested further factors to consider:

• Cost. Before you even assess a company’s returns, schemes have been encouraged to consider the full extent of the fees the manager will charge. Closet trackers may appear to offer reasonable returns, but once all fees are included, performance can look different. 
• Size and constraints. Consultants stress that the bigger a proportion of the index the fund becomes, mimicry is inevitable. Similarly, the more constraints you place on what your manager can pick, the more likely the fund will be following the index.
• History. A high active share means the fund manager is taking strong positions – but it does not always mean those positions are paying off. Some consultants value a history of strong returns as more important than the active share.
• Risk. Active share measures the fund’s difference from the benchmark, but it does not take risk into account. Tracking error can be used to measure volatility when comparing fund performance.
• Asset class. Not all benchmark returns are made equal, just as risk levels for all asset classes are not equal. Active share presents a one-size-fits-all number, and will not assess the risks and rewards of the fund’s benchmark.