Put Your Portfolio On A Diet

You always know when we are coming into peak marathon season, as the streets and commons of South London are replete with lycra and energy gels. Countless amateur runners putting in the long miles ahead of their respective race days.

Running a marathon is by definition, quite hard work. But it turns out there are a few factors which can have a major impact on performance.

A number of studies performed on marathon runners, both recreational and professional, show a high inverse correlation between body weight and/or body fat percentage versus marathon performance1. Put simply, the lighter the runner is, the quicker they are likely to be.

You might think that this would be obvious. It is certainly intuitive.

If we are carting around a few too many extra kilos (speaking from experience) distance running is made all the more difficult. Losing a bit of timber means that it requires less energy to cover the required distance and times improve.

Bit much. Image credit: Shuttershock.

When we look at investment performance, we see that needless extra weight (in the form of unnecessary cost) also has an impact on performance. Investment returns on the whole are inversely correlated to the level of fees charged.

This holds true across different geographies and strategies. And this isn’t a “passive versus active” thing either - active funds at reasonable cost do better than their more highly priced peers, it also just so happens to be the case that all of the excessively expensive strategies are active.

The term “democratisation” usually makes me want to stick pins in my eyes. But it is an undeniable fact that investing has been democratised beyond all expectation over the past couple of decades.

Just twenty years ago, you would need to open an account with a stock broker and pay a hefty commission to buy whatever share it was took your fancy. You would have little to no oversight over the account, and oh by the way, no stock broking firm would even entertain you if you didn’t have more than a few bob.

Today, each of us can access a broad basket of the best companies on the planet by pushing a few buttons on our phone.

Perfectly suitable investment solutions at a sensible price are now available to the masses in a way that they never have been before. This is without question, brilliant for the end investor as it increases choice and reduces costs.

Or, at least, it should.

For whatever reason, there remains an awful lot of money invested in sub-optimal strategies where, technically speaking, fees charged range from “a bit toppy” to “taking the piss”.

Such fees are often justified on the basis of some perceived complexity. The custodian of this lazy money will also often appeal to the client’s ego in a bid to keep the cash. “Oh a simple index fund would never do for you sir, you are a high net worth client”.

A portfolio charged a 1% management fee just has to work so much harder to do better than a simple equivalent “no effort” portfolio charged at a third of the cost.

The money in these expensive funds, on the whole, underperform not because the managers are morons - but just because the portfolio has to carry more weight, it takes so much longer to get you from A to B.

How fees are charged matters as well. The asset management industry has, forever and a day, charged a fee equivalent to a percentage of the sum invested. If you are solely in the business of investment management, I think this is fair enough - you have no other value proposition and a percentage fee aligns your interests fully with your clients.

However, properly holistic wealth management is not just about investment returns. How can it be when this is the one bit which is outside of our control!?

In my (humble) opinion, if my advice to a client is not solely limited to their investment portfolio, if their investment strategy is but a minor portion of the overall plan - then why should the fee that I take be driven by the amount they choose to invest with me?

Better to charge a flat fee which (like every other business on the planet by the way) is calculated by adding my desired margin to my costs in servicing that client.

Not only more logical in my view, but better for the client too. Because percentage fees, like investment returns, compound over time.

Managing our finances can be so complex, so many difficult decisions. But this one really isn’t. If our portfolios are carrying a bit of excess timber, it is time to get them on a diet.

Past performance is not indicative of future returns. None of the above is intended to constitute advice to any individual. If you have any questions about your individual situation please consult a regulated financial adviser.