How do you know if your fund manager has lost their mojo?

Laith Khalaf
30 June 2022

Laith Khalaf, head of investment analysis at AJ Bell, discusses the recent poor performance of Fundsmith Equity and Scottish Mortgage, and how investors should deal with funds that underperform.

“Two of the most popular active funds of recent years, Fundsmith Equity and Scottish Mortgage, have had a grisly 2022 so far. Fundsmith Equity has fallen in value by 16%, and Scottish Mortgage has fallen in value by a breath-taking 44%, in the space of just six months. Investors might normally be spitting feathers at such performance, but these two funds have delivered exceptional returns for investors over the long term, and so the managers have considerable credit in the bank. All long periods of underperformance start with a short period of underperformance though, so how do you know when it’s time to ditch your active manager?”


“The first thing to do is assess performance properly. Fund price movements up and down are clearly what ultimately matter most to investors, but if you’re evaluating an active manager, you need to set their performance in context, by comparing it to an appropriate benchmark. Both Fundsmith Equity and Scottish Mortgage are global funds, so it makes sense to compare them to the performance of the global stock market, through a broad index like the MSCI World. If you were assessing a UK fund you would probably use the FTSE All Share as a comparator, or for a European fund it would be the FTSE World Europe ex-UK index. Most funds will provide a benchmark on their factsheet or in their prospectus if you need a point in the right direction.”

Taking a long term view

“The MSCI World index has fallen by 10% this year, so by this measure, Fundsmith Equity and Scottish Mortgage still fall short of the mark. But six months is a really short time period over which to judge a fund manager’s performance. If you’re not prepared to accept six months of underperformance every now and then, you should probably opt for index trackers rather than active funds. It’s worth acknowledging that even passive funds will underperform the index if they are doing their job properly, because of fund charges, though competitive tracker funds are very cheap nowadays so the underperformance should be very modest each year. Looking at the examples of Fundsmith Equity and Scottish Mortgage over a longer time period, things start to look better. Over five years Fundsmith Equity has returned 65%, Scottish Mortgage has returned 92%, and the MSCI World Index has returned 57%.”

The market context

“As an active fund investor, when your fund does underperform the relevant benchmark index, you also have to give due consideration to the style of the manager. Fundsmith Equity, for instance, runs a highly concentrated portfolio of only 30 companies. Performance can therefore deviate substantially from the market, for better or worse. The fund manager also has a distinct preference for growth companies with robust finances which generate reliable profits. These stocks have been in the ascendancy for most of the last ten years, but more recently, higher interest rates and rising inflation have led to a reversal in fortunes. Similar comments apply to Scottish Mortgage. The managers run a high conviction portfolio of companies they believe are future leaders of the global economy. This has led to heavy exposure to the technology sector, which has seen a sell-off this year after an astonishingly strong bull run.”

What has changed?

“Both funds have an extremely robust, well-defined investment philosophy, which will have been the attraction for many investors. If your fund is underperforming, ask yourself why you invested in the first place. Clearly you had conviction in the fund manager, so consider if anything has fundamentally changed that should lessen that. In the case of both Fundsmith Equity and Scottish Mortgage, the managers haven’t changed their investment approach, it’s just the market has turned against their style of investing. Of course, the longer underperformance goes on, the more that will legitimately undermine investors’ confidence. So how long a period of underperformance should investors endure?”

How soon is #toosoon

“Markets can turn against a particular style of investing for long periods. As a general rule of thumb, a year of underperformance should put a fund on the watchlist, three years should be a serious review when you decide to renew your vows or part ways, and after five years of underperformance, you need good reasons to keep the fund in your portfolio. That’s not to say you won’t find any mitigation though. Many value fund managers have been through more than five years of underperformance in the last decade, but that style is now coming good once again. So taking stock of the market context is important. As is understanding the role a fund has in your portfolio. A truly diversified portfolio of active funds should have a mix of different fund managers styles, and at any one time some will be desperately unfashionable, and others will be flavour of the month. The nature of the market is such that as time goes on, different fund styles will have their day in the sun.”

Patience is a virtue, though not always rewarded

“Active fund investors have a choice when it comes to dealing with fund underperformance. Either you cut and run at the first sign of trouble, or you sit and wait it out. If you jump ship quickly, you might get out of some funds before a long downturn in performance, but equally you will miss some that bounce back. Meanwhile you also rack up trading costs and spend a lot of time and effort moving your portfolio around. You also have to move your money into another fund, and who’s to say the one you choose is not about to endure a period of underperformance too. If you choose the patient route, you avoid these issues. Sometimes you will hold a fund for longer than you would with perfect hindsight, but in a diversified portfolio, other funds should take up the slack. On balance it’s probably better to show a little faith in your chosen fund manager, even if occasionally it’s not rewarded.”

Fund performance data from FE, total return in GBP to 29th June 2022

Laith Khalaf
Head of Investment Analysis

Laith Khalaf started his career in 2001, after studying philosophy at Cambridge University. He’s worked in a variety of roles across pensions and investments, covering both the DIY and the advised sides of the business. In 2007, he began to focus on research and analysis, and has since become a leading industry commentator, as well as a regular contributor to the financial pages of the national press. He’s a frequent guest on TV and radio, and for several years provided daily business bulletins on LBC.

Contact details

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