Since the departure of Bill Gross to Janus Capital, PIMCO has suffered harshly at the hands of their investors. Their flagship Total Return Bond fund has bled billions in outflows and is no longer the world’s largest mutual fund. Five of the top ten funds with largest outflows this year are from PIMCO’s range, suffering losses of over US$100bn in total.
Aside from discussing PIMCO’s internal troubles, this leads us to question where the money is going. Unanimously, the answer seems to be into passively managed funds across most major asset classes. Fixed Income index trackers (both mutual funds and ETFs) in particular have seen notable growth over the last few years. It is evident that one of the biggest gainers this year has been Vanguard, who has taken a substantial proportion of PIMCO’s assets, and is now the second largest asset manager globally, behind BlackRock, having crossed the US$3trillion assets under management mark and overtaken PIMCO to this position.
One of the main reasons for the switch from active to passively managed funds is that, the ability of active fund managers to outperform their benchmarks in the long run is being questioned; repeated underperformance is cost ineffective for investors. Fears that active managers overcharge for ‘closet hugging’ funds also incentivise switches to passive management. Index trackers intentionally hug benchmarks and follow the markets, so have broadly neutral active performance versus the benchmark. They require lower fees for replicating market positions and thus are potentially a better solution for investors. 2014 in particular, seems to have been a bad year for performance, with many active fund managers underperforming their benchmarks (gross of fees) as the end of quantitative easing caused less volatility than expected, meaning yields on treasuries rose less than expected, and many funds underperformed. More recently, exposure to energy companies, both from an equity and fixed income fund perspective, coupled with the fall in energy prices has led to further underperformance. These issues have been brought to the forefront of investors’ minds, and can help explain the growth in index trackers to date.
Another major factor contributing to the growth of index trackers has been the changes in regulation. Transparency requirements in fees charged has led to further competition between funds as investors can now more easily search for cheaper products. The squeezing of operating and administrative costs has ultimately led to fund management fees being cut, or reduced, in favour of funds that can be managed more cheaply. Investment advisors are no longer at a disadvantage recommending passive over active funds (due to the regulatory removal of commission based fees). Michael Rawson, an analyst at Morningstar, suggests that many of Vanguard’s inflows are a result of these direct payments. This has impacted both the retail and institutional investor.
How long this trend will continue for is uncertain. What can however be ascertained, is that those fund managers who do not offer passive products are missing out on a phenomenal trend, only part of which is made up through PIMCO’s loss.