Active fund managers face rising challenges but could find relief in passive funds

The world is getting harder for active fund managers but they might just find an answer in the very passive funds that are causing them problems.

The major issue with active fund managers is performance, with very few able to consistently outperform the index they are benchmarking with higher fees also making the job harder.

The value crunching break-up of leading value-oriented fund manager Perpetual is another very stark reminder that even a well-regarded fund manager can come to grief in the current competitive environment – particularly when it becomes undisciplined and pays too much to buy growth in the form of the Pendal acquisition.

Active players bring institutional strategies to ETFs

Well, it seems some of the active managers have had enough of watching their passive ETF competition cut their lunch and steal market share and funds under management and are hitting back with some ETF action of their own.

Now it is true that active ETFs are not new, although they are currently dwarfed by their passive counterparts that match leading share market indices such as the ASX 200.

However, leading investment bank Macquarie is now set to offer some high-tech active investment strategy ETFs with a difference in the form of very low fees that compete very well with passive ETFs.

Cut price quant for mums and dads

There are a couple of extra wrinkles which it is important to understand first but these new Macquarie products will offer investors exposure to its sophisticated quant style computer-driven share-trading strategies for management fees that are very low and comparable to and in many cases cheaper than passive index ETFs.

One is the Macquarie Core Australian Equity Active ETF (ASX: MQAE), which gives investors exposure to a portfolio of 200 ASX-listed shares.

The cost is just 3 basis points a year in management fees and 20% of any outperformance of its benchmark, the S&P/ASX 300 index.

However, as an investor, giving up some of that sort of upside performance is not too much of a struggle, given you would still get the lion’s share of the upside.

It is a bit like paying a real estate agent an extra commission for performing well above your expectations – it acts as an incentive and just might do the trick in getting a better price, in which case you don’t mind paying the extra commission.

Global quants as well

The second similar fund is the Macquarie Core Global Equity Active ETF (ASX: MQEG) and will use quantitative-driven computer models to buy 400 to 500 global stocks and charge a management fee of 8 basis points with an identical 20% fee of any outperformance of the MSCI All World Index.

The investment process is highly computerised and thorough, which helps the fund to very cheaply sift through mountains of data quickly, including prices, volumes, earnings, expenses, trends, valuations, ratios, carbon footprints and even the ‘tone’ of a company’s announcement.

Macquarie claims its proprietary tools then use all of this information to construct a fine-tuned portfolio, including companies with the best chance of outperformance.

Being computerised, it should reduce the risks of emotional biases and avoiding unrewarded tilts such as style, sector and country bets, although it should be remembered that quant funds have hardly been immune to bouts of poor performance.

Price war coming?

Some analysts think the low fees being offered by Macquarie could cause something of a price war for other active managers and perhaps also for some of the existing ETF producers which includes BlackRock, Vanguard, State Street and BetaShares.

Many of the big ETF producers also have active investment funds packaged in an ETF style so they won’t want to lose too much market share to Macquarie but the biggest threat could be to existing active managers such as Perpetual which often charge much higher fees for active management than the new Macquarie ETFs.

Obviously, investors should be aware of how their money is being invested and should not regard these sorts of active funds as a replacement for current passive index holdings – perhaps using them as a satellite fund to hopefully generate some alpha above the index return being churned out by the passive core holdings.