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Cheap funds don’t equal better performance

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Written by: Paloma Kubiak
08/05/2018
Basing fund choice on cost alone can prove to be a big mistake for investors, analysis has revealed.

When investors are presented with warnings about fees and charges and the impact they will have on returns, many naturally turn to cheaper funds.

But picking funds because they’re cheap or cheaper won’t necessarily lead to better returns, according to analysis by Chelsea Financial Services.

It looked at 238 funds in the IA UK All Companies sector, which have a five-year track record with ongoing fund charges ranging between 0.06% to 2.91%.

Chelsea found that the cheapest funds weren’t the best performing as four of the top ten performers have an OCF greater than 1%.

These funds actually outperformed the cheapest funds by some 127% to 208% over the five-year period. On an investment of £10,000 this means additional returns worth between £5,500 to £8,500 – after all charges.

Top funds and their charges

Of the top 60 funds (the top quartile in the sector), only three funds have an OCF of less than 0.70%.

The best of these was Montanaro UK Income in 22nd place, with an OCF of 0.35% and returns of 71.26%. Second was iShares Mid Cap UK Equity Index in 54th place with an OCF of 0.17% – the best performing tracker fund with returns of 57.69%.

The third fund was HSBC FTSE 250 Index with its OCF of 0.18% and returns of 56.86%.

At the other end of the scale (the bottom quartile funds in the sector), 34 out of 60 have an OCF of 1% or more. They include the two most expensive funds, which both have an OCF greater than 2%.

The only other fund with an OCF greater than 2% was in the top quartile in terms of performance, in 59th place.

Four of the worst performing funds also have an OCF of less than 0.35%.

TopFundChargesChelsea

Darius McDermott, managing director of Chelsea Financial Services, said: “Buying the cheapest fund is not going to result in the best consumer outcome. Fund houses are now being given the opportunity to evidence how they add value for money, and it is essential they get this right. A consistent way to show this value would be best, so that investors can easily assess the advantages and base their decisions on more than cost alone.”

He added: “Could fund management costs be reduced further? Yes they could. And we have already seen a small number of companies take these steps – Baillie Gifford, for example. More companies could, and should, pass on their economies of scale to investors, but at the same time, investors need to understand that returns after charges are far more important than the level of fees alone.”

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