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In the world of investment management, it’s all too easy to get hung up on labels.

Peter Askew

For example, there’s the constant debate surrounding the difference between active versus passive investment management. But ask any expert and they’ll tell you that there’s no need to choose. Your investment management can be both active and passive, if you want.

Yet arguably the most contentious labels are those that refer to deviations from indices; labels like “active share” and “tracking error”.

These labels are contentious because they’re misleading. They suggest that, for all investors, an index can function as a portfolio construction tool. This concept is fundamentally flawed.

Why, for instance, should you care what weight a stock is as part of an index when considering market capitalisation indices? And though an index might reflect a wider opportunity set in any given market, that makes it, at best, a reference point.

There is room for tracking error and active share. Most of us are index agnostic. When size isn’t an issue, we buy stocks we like the look of. And if we don’t like it, we don’t own it. The end result is anportfolio that’s built from the bottom up, rather than from the index down.

And yet, time and time again we see articles in industry publications urging the public to focus exclusively on costs, tracking error, and active share. The problem is, it’s a bad terrible idea to start portfolio construction with the concept of how much you should deviate from an index.

These are the sort of problems that only really apply to large public pension funds with billions to invest. But if you don’t have billions to invest, then why burden yourself with issues liketracking error and active share?

So it came as quite a shock to read Merryn Somerset Webb’s piece in a recent FT Money. Why is this supposed champion of the smaller investor saying that “you don’t get what you pay for” when it comes to active managers?

Size Does Matter

All of these debates – active versus passive management, and the measurement of tracking error and active share – are very much the exclusive domain of only the largest of fund management groups and institutional investors.

Those who have large amounts of money to deploy invariably have to start with indices based on geography – or at least, that’s what their consultants might recommend.

It’s interesting that in a world where cost is everything, this extra layer of consultant fees almost slips under the radar. What are we to make of this? That there are investors out there who have the skill to devise their own asset allocation before populating it with individual equities or the best managers?

Granted, there might be some out there who are capable of doing this. But there can’t be many.


All investors are seeking relevant investment outcomes that fit their investment objectives. It’s fair to say that they want to limit the downside to their portfolio’s performance while ensuring that their wealth is preserved in relation to inflation.

In recent years, multi-asset funds have highlighted a number of scalable investment solutions based on outcomes, rather than on indices. And yet, much of the investment management industry still seems to favour input-based investment based on asset class and geography.

Unless you’re a multi-billion pound investor or a major pension fund or asset manager, these issues shouldn’t concern you. At all.

A More Sensible Approach

If you’re not one of these major investors, you need to ignore indices as part of your portfolio construction strategy. Instead you should focus on what you wish for your investment portfolio to achieve.

You need to find managers willing to discuss outcomes, as opposed to tracking error and active share. You need to work with someone who knows how to build a portfolio from the bottom up, as opposed to from an index down. And above all, you need a manager who has a conviction in what they do, and an understanding of why they’re doing it.

Take this approach and you’ll probably find that you’ll get what you pay for – an investment manager who, in exchange for a reasonable fee, delivers a relevant and understandable investment outcome.

By Peter Askew, CEO & Fund Manager at T Bailey Asset Management.

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