28/8/2023.
The UK's Ten Largest 60%-80% Allocation Funds Control Over £35 Billion Of Investors' Money. Every Single One Underperforms A Simple Two-Index Passive Benchmark. Vanguard's LifeStrategy 80% Equity Fund Is The Largest Culprit.
If you work in the financial industry, you might not want to hear this.
In my December 2022 paper, “Is Your Investment Manager Good Value” (downloadable here), I explained how a locus of passive index portfolios (PIPS) makes an easy 'at-a-glance' way to compare multi-asset funds. My research also showed that only 1% of GBP multi-asset funds outperformed a two-index passive benchmark on a risk-adjusted basis (sample: all 601 Multi-Asset GBP Funds from the Citywire Selector website, with at least 10-years of performance data).
Today I’m going to look at the UK’s 10 largest multi-asset funds in the Morningstar ‘GBP 60-80% Equity Allocation’, as listed on the FT website.
To see this list, go here, then select ‘Investment Focus’, category ‘Allocation’, scroll down to ‘GBP 60%-80% Equity Allocation’. Hit ‘Go’. Sort the results by Total Net Assets, largest first. Here’s the results:
Table: UK’s Ten Largest GBP 60%-80% Equity Allocation Funds
This multi-asset sector, 60%-80% Equity Allocation, represents an investor risk profile that's somewhat more adventurous than 'balanced', and covers a range of risk-return expectations matching a wide spectrum of the investing public.
Plotting Versus the PIPS GBP Line
The GBP PIPS Line is the locus of portfolios of E% MSCI World Index GBP + [1-E%] Bloomberg Global Aggregate Index H-GBP, as E varies from 0-100%. For a quick intro, read this. PIPS makes a good benchmark, because a PIPS portfolio is passive, rules-based, has decades of data, and is investible via cheap ETFs/tracker funds.
We note that the Mercer funds (or share classes of the same fund) don’t have a five-year performance history. I believe that 5 years is the minimum period for meaningful comparison, and indeed it’s common for factsheets of multi-asset funds to state that investors should have at least a five-year time horizon. So, we drop those 3 funds from the initial comparison immediately below.
Chart: UK’s Seven Largest GBP 60%-80% Equity Allocation Funds (Having 5-Year History), Plotted Together With The GBP PIPS Line. Click to enlarge.
ALL seven of these multi-asset funds underperform the PIPS index on a risk-adjusted basis (i.e. inferior returns for an equivalent volatility).
The two funds landing closest to the PIPS Line are Vanguard LifeStrategy 80% Equity A, and Rathbone Strategic Growth Portfolio S Acc. By human eye, we can immediately identify these two funds as potential candidates for short-listing, if we were trying to make an investment choice within this group of funds.
The Rathbone fund has shown a volatility (standard deviation) of 9.02 over the five-year period, whilst for Vanguard the volatility figure was 11.13. Therefore, if we were comfortable with relatively higher volatility, then the Vanguard would have been the best choice from this group. If we were more cautious and preferred lower risk / volatility, then the Rathbone fund would have been the one to choose.
Coincidentally, I have already looked in detail at this particular Rathbone fund in the post “Does the UK’s Best Multi-Asset Balanced Fund Beat The Benchmark?”, so no need to examine it further in this article.
Sidenote: What Difference Does Choosing The Right Core Portfolio Make?
Multi-asset funds are often used as a portfolio ‘core’, and are then augmented with other holdings such as emerging markets equity, high-yield bonds, gold, thematic investments, etc. For this reason, there may be a temptation to underestimate the importance of choice of core holding.
Avoid this temptation. If you start your portfolio with a poor choice of core holding, you are throwing away performance with respect to volatility, without reason. This forces you to:
- EITHER - over-allocate to other, more risky, assets in order to 'make up the difference' in total portfolio returns,
- OR - accept your portfolio delivering sub-par returns as the price of maintaining your volatility target.
This underlines how - for any portfolio - starting with the right core assets is essential.
Quick Look At The Mercer Funds
Before we look in more detail at the Vanguard LifeStrategy 80% Equity A fund, let’s briefly glance at the Mercer funds. Noting, we don’t have five years of data, we have only three. Nevertheless, we plot.
Chart: Three Largest Mercer GBP 60%-80% Equity Allocation Funds, Plotted Together With The GBP PIPS Line. Click to enlarge.
ALL of the Mercer multi-asset funds underperformed the PIPS index on a risk-adjusted basis.
To aid analysis, in the above chart I have plotted the PIPS-GBP-Index-65E (65% Equity) in light green ('C'). This data point is performance=21.38%, volatility=9.28% for the three year period. This performance is about 5% better in total than the Mercer funds, for identical volatility.
Over the last three years, an investor tracking the PIPS-65E would have outperformed Mercer’s funds, even allowing for the cost of tracking using ETFs (which would be just a fraction of one percent).
How Does Vanguard LifeStrategy 80% Equity Fund Perform Against A Passive Benchmark?
'Hold on', I hear you cry. 'What does this headline even mean? Vanguard is all about low cost index trackers, isn't it?'.
Mostly, yes. And since the evidence shows that actively managed funds generally underperform their indices over time, Vanguard's low-cost passive index-trackers deserve their popularity.
But when it comes to multi-asset portfolios, easy-to-track indices are few and far between. Thus, pretty much every multi-asset fund you encounter is active to some degree. A few fund managers - such as Vanguard and Dimensional - create allocations that vary systematically across their multi-asset product range (although, how those allocations are created in the first place can be a subject of mystery).
It's interesting to see how the Vanguard Lifestrategy 80% Equity fund has varied in allocation over time. Answer: almost not at all. See below.
Chart: Vanguard LifeStrategy 80% Equity Fund Asset Allocation Variation
The low variation of asset allocation over time is indicative that the fund is 'hardly' active (in the sense that managers are not changing things around as per their theories). You can see that the target allocations of holdings 4 to 8 are somewhat different to two years ago. Maybe the percentages have been tweaked - in which case, the fund is perhaps not purely passive in the manner that PIPS is.
- Vanguard's Lifestrategy 80% Equity GBP fund has 14 components, and is rebalanced daily (as per their literature).
- Walkers-PIPS-GBP-Tracker-75E (75% Equity) has just 2 components, and is rebalanced annually. (Tracker being an investible version of the index, more below.)
Vanguard Fund Plotted Against The PIPS Line
Chart: Vanguard LifeStrategy 80% Equity GBP 80% Equity Fund, Plotted Together With The GBP PIPS Line - 5 Years. Click to enlarge.
Chart: Vanguard LifeStrategy 80% Equity GBP 80% Equity Fund, Plotted Together With The GBP PIPS Line - 10 Years. Click to enlarge.
In the above charts, I have plotted a green dot ('C') for the 75% Equity PIPS-75E, which has approximately the same volatility as the Vanguard Lifestrategy 80% Equity Fund. So we can consider this as a very reasonable benchmark index for analysis of the Vanguard Fund.
To bring us to the real (investible) world, we create the PIPS-75E tracker thus: 75% iShares Core MSCI World GBP (ISIN:IE00B4L5Y983) + 25% Vanguard Global Bond Index Hedge GBP (ISIN:IE00B50W2R13); rebalanced just once annually in January.
Here's a performance comparison, for the last 12 years.
Chart: 12-Year Performance: Vanguard LifeStrategy 80% Equity Fund GBP vs Walkers PIPS Tracker 75E GBP. Click to enlarge.
We can see that over the last 12 years, the Vanguard fund returns have underperformed the PIPS-75E tracker by 27%.
Here's a table comparing the performance for different periods:
Table: Historical Performance of Vanguard LifeStrategy 80% Equity GBP fund versus PIPS-75E GBP benchmark (investible tracker).
Comparing The Vanguard LifeStrategy 80% Equity Fund Drawdown Performance With The PIPS-75E Tracker
It seems incredible that a simple passive index portfolio (PIPS) comprising just two funds outperforms the world-famous Vanguard's flagship LifeStrategy fund, which is - on the surface - uber-diversified. However, the evidence is, what it is.
One of the arguments for actively managed funds, especially multi-asset, is that they can supposedly react better to market conditions, and protect investors better in choppy markets. So far, my work on the PIPS Benchmark tends to disprove this theory.
Let's explore, therefore, whether the Vanguard's LifeStrategy Fund derives any benefit for it's 14 holdings, versus PIPS's 2. We can do this by looking at maximum drawdown during the COVID panic in February 2020. Answer: Nope.
Chart: Vanguard LifeStrategy 80% Equity GBP Fund vs PIPS-GBP-Tracker-75E - Performance During COVID Panic Drawdown
Conclusions
1. Each of the UK's top ten funds by size in the multi-asset category "60%-80% Equity Allocation" (more than £35 Billion in aggregate), has underperformed a simple portfolio comprising E% iShares Core MSCI World GBP + [1-E%] Vanguard Global Bond Index Hedge GBP (risk adjusted, i.e. E selected for comparable volatility), over 5 years for funds with sufficient track record, and over 3 years for funds without.
2. The Vanguard LifeStrategy 80% Equity GBP Fund has underperformed a simple portfolio comprising 75% iShares Core MSCI World GBP + 25% Vanguard Global Bond Index Hedge GBP, over 3, 5, 7, 10 and 12 years (and with comparable volatility).
Charts and data from the amazing FEfundinfo / FEanalytics with grateful thanks.
Header image by 8photo on Freepik.