Why we buy index-trackers

Investment Insights

At Flying Colours, we strive to take sensible decisions for our client portfolios and keep investing as simple as possible. A key pillar of this is to favour index trackers over actively-managed funds. What is an index fund?

Simply put, it is a fund that buys all the stocks listed, or bonds issued, in a particular segment of the market and is designed to mimic the overall performance of any financial market. For example, a UK equity tracker will buy each stock in the FTSE All-Share so an investor will benefit from the returns of all the stocks listed in the index.Owning all the stocks in an index or a sample of stocks in an index is a very different investment strategy to selecting an active manager. Actively managed funds are run by a professional investor, or team of investors, who seek to outperform their index through research and trading.

Like any pooled investment vehicle, active funds eliminate the risk of individual stocks and the risk of market sectors. However, history has shown the extra fees you pay for trying to beat the market is difficult to overcome. Simply put, it is very hard to beat the market.

There are two key problems that active managers face: one is the higher annual management charge they levy; a significant hurdle to overcome. Today, you will typically pay 0.75% in management fees for an active UK equity fund, compared to around 0.08% for a passive tracker.

Also, active managers typically trade more than a passive fund manager, and this trading costs money.

Recent regulatory disclosures show that for some UK active managers, their trading is costing an additional 0.75% or more every year.

It is for these reasons that we feel it is simply good sense to favour passive over active.

 

Guy Myles,
Chairman, Flying Colours Investment Committee 

 

We hope you find the education zone interesting and useful, but please remember it shouldn’t be viewed as financial advice.