Attack of the fund-sucking Zombies

6th April 2012

Attack of the fund-sucking Zombies

Some personal pension plans have gained under one per cent a year over the past two and more decades, according to an IFA quoted in FT Adviser

The client had been paying in £200 a month for 23 years – a total £54,800. But despite some strong markets over the period, his pension is now worth just £59,582. Stripping out commission and charges leaves annualised gains of just 0.73per cent – a victim of a Zombie fund where no one makes any effort as it is closed to new entrants.

It represents a failure of the "buy and hold"  strategy, the idea that holding on long term with a stock or a generalised fund should produce dividends. And it is the very opposite to high frequency trading. With its attention span measured sometimes in milliseconds, this algorithm-driven dealing method favoured by some hedge funds is often blamed for sudden and severe price movements.

But despite that, two Schroder fund managers say the "insatiable demand for short-term portfolio performance has driven investment managers to take on greater risk, but it is likely that, ultimately, it has led to weaker performance for clients, and for the economy at large."

The pension fund disaster was just of the life and pensions complaints to the Financial Ombudsman Service . These are up 42 per cent in the past year to 4,500 – with around half relating to just 10 firms. Investors cannot involve the Ombudsman over performance issues.  So an increasing number claim they were mis-sold products. They were told their investment would grow over time. It might not have been spectacular but they were not prepared for this level of anemia. 

The FOS says: "It seems likely that, as a result of the economic situation and the effect of investments falling, people are looking at the initial advice they received and making complaints if they feel they were mis-sold a policy."

Fast and furious

The investor did everything possible to ensure that the pension fund enjoyed steady band secure growth. The client avoided anything that was fast and furious, sidestepped volatile assets, aiming instead for safe and secure. It was a managed international equity fund and to smooth ups and downs, the pension buyer opted for a regular payment scheme.

Using the theory of "pound cost averaging",  this should have bought more units when prices were low and fewer when they rose. It failed.

This client was also failed by the financial services industry which he trusted. His money was in a "Zombie" fund, one shut to new money from a company that no longer attracts new cash. But it is still taking management fees. Investors have to ask whether being closed is sufficient excuse for doing nothing – in any case, picking shares with a pin would probably have fared better.

Where was the transparency?

There was a lack of transparency involved – the charging and investment structure of some old pension plans are almost impossible to decipher.

And there was scant sympathy for this investor from some financial services professionals. One said the investor failed to factor the tax relief on contributions but that's money from the taxpayer and is given irrespective of performance or fund choice. In any case, the miniscule gains were largely tax free.

The company now responsible for his Zombie fund neither apologised for the poor performance or even came up with any reasoning or excuses. Instead, it suggested it was the client's fault for doing nothing even though he had been told to have confidence in the fund managers. 

It said: "We sent the client regular statements and he could have transferred the fund. If anything this case proves the need for employing a financial adviser and being a proactive investor."

Yet the client was sucked into this fund by a financial adviser in the first place. Could or should he have more faith now in financial advice?  And in some cases, transferring a fund can bring penalties.

Short term noise vs long term results

At the other end of the scale, proactivity – short term trading, exchange traded funds, spread bets – is a high risk, high cost strategy which may be good for gambling but is rarely recommended for pensions. Traders often lose money – and lots of it.

But the noise of traders can often drown out the longer term needs of investors – most of whom stick with the same investment funds for substantial periods. Short term traders grab on whatever data they can find on their screens. And that can be dangerous. 

Schroders fund managers Sonia Laud and Ian Kelly say: "The reliance on short-term data has led to a sea-change in the way markets view and reward companies. It provokes a disproportionate reaction to both downside and upside earnings surprises."

Short term trading when successful can be better rewarded. An old fashioned long term equity strategy might take months or even years to prove its value – a high frequency trader can make a bonus-worthy fortune in minutes, while not paying back if the deals fail.

Information overload distorts

Laud and Kelly believe there is an "information overload", a proliferation of short-term corporate and macro-economic date which distorts the true picture of companies' financial positions.

They say: "As macro news has dominated market sentiment, investors have become increasingly preoccupied with economic forecasts, unemployment forecases and manufacturing confidence surveys."

They believe – along with a growing number – that less is more, that too frequent reporting (such as quarterly figu
res) causes more harm than good.

"Instead," they say, "investors should focus on understanding the long-term drivers that will ultimately determine a company's fate."

They add: "Amid all the gimmicks and noise, how can a fund manager identify what is actually happening with the company? They must understande how a company is positioned for success. There is no better or more consistent source fo this that management's own words and audited accounts." 

In other words, equity investment success demands a concentration on the company rather than buying or selling on macroeconomic data.

In the case of the pension fund buyer, it remains to be seen whether the investment managers understood anything – other than taking their cut of his money each month.


More from Mindful Money:

Big Society Capital neglects small businesses – Could crowdfunding save them?

What can investors learn from The Voice?

Financial instruments: the new drugs?

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