“
Index InvestIng ActIvely mAnAged etfs
Unless there is a
very specific reason,
it does not make
much sense to buy
a mutual fund
”
Daniel Freedman, managing
director, SPa ETF
By Gary CorCoran
The argument of active
versus passive management
is a debate that runs through
the entire history of asset
management. It usually
centres on the relative cost
(low) compared with the
potential returns (high) –
though too often simply on
cost – and little on the risks,
particularly if an investor is
tied into a product that
tracks a falling index.
In the latter part of the
20th century, Legal &
General and Barclays
Global Investors (BGI)
dominated the institutional
index-tracking investment
world as investors simply
wanted their money to do
exactly what the mainstream
indices were doing,
namely increase in value
over the long term.
Simplicity, transparency
and their relatively low
cost made index-trackers
an attractive proposition,
over and above the claims
made by active fund managers
that they were able
to provide greater returns
net of costs.
From the point of view
of designing a portfolio,
there is a distinct danger of
looking at a particular
fund, asset class or investment
strategy in isolation.
The danger of the active/
passive argument is that it
ignores, for example, the
actual performance of the
underlying funds, concentrating
too much on explicit
differences such as cost.
l Changing times
Exchange-traded funds
(ETFs) are essentially passive
investment products.
They started out as tracking
the mainstream indices,
38 PORTFOLIO ADVISER [www.portfolio-adviser.com] DEcEmbER 2008
Taking an
active role
Exchange-traded funds have
developed quickly in the UK
from pure index-trackers to
fundamentally-driven products.
Their increasing sophistication
means they offer investors much
more varied choices when it
comes to portfolio design
such as the FTSE 100 and
S&P 500. But such is the
speed of change – largely
on the back of technology
that has quickened providers’
ability to easily replicate
a straightforward
product model – that ETFs
are bridging the gap
between active and passive
investment strategies, pitfalls
and all.
SPA ETF is a case in
point. Its sister company,
London & Capital, reviewed
the equity strategies in its
client portfolios and found
that 85% to 90% of mutual
funds underperformed
their benchmark index.
Using this as a standalone
argument, Daniel Freedman,
managing director of
SPA ETF says: “Unless there
is a very specific reason, it
does not make much sense
to buy a mutual fund.”
The original ETFs, in the
UK at least, simply held the
stocks in the mainstream
index so, for example, a
FTSE 100 ETF would hold
each of the 100 stocks
available. The downside to
this is that ETFs designed
in this way replicate the
index purely by cap size
and its returns are controlled
by the largest of, in this
example, the 100 firms.
Freedman gives the
example of 2000 when BT
made up 16% of the FTSE
100, so the index was
heavily biased to the performance
of one stock.
“This is not right.” he
says. “If you have an index
that is purely weighted by
the size of the company, it
does not matter whether
the company is doing well
or badly it is going to have
an overweight position in
the index. Surely an equally-weighted
index would
be better and when you
look at the performance of
equally-weighted compared
to cap-weighted
indices you find they actually
outperform.”
l Instant choice
SPA ETF constructs its
products by using quantitative
analysis provided by a
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