There are so many things wrong with the active fund industry – the opaqueness, the high fees, the failure to outperform and so on – that it’s hard to know where reform should start.
But for me, there’s one issue that epitomises more than any other the need to clean the industry up. Closet index tracking – in other words, passing a fund off as actively managed when it more or less simply tracks an index – is a global scandal.
Professor Keith Cuthbertson from Cass Business School, who’s spent the last five years studying mutual fund performance in the US, the UK and Germany, estimates that around 70% of funds are closet trackers.
Just think about that.. 7 out of 10 funds are charging the usual high fees that active funds command when the managers are actually doing very little, and producing similar returns (decidedly worse after fees) to those that a genuine index fund could guarantee you at a tiny fraction of the cost.
Thus far, the industry has been extraordinarily complacent about the fact that so many customers aren’t getting what they’re paying for. In the UK, for example, the Investment Association has said it’s up to the customer to work out whether a particular fund is a closet tracker or not.
Thankfully, though, investors are starting to fight back, as this video I produced for IFA.com explains.