The investment world can be confusing for private investors. The jargon and arcane language particular to the industry makes it difficult to understand what is going on with your investments. In addition, invested journalists and agenda-driven opinion makers make it near impossible to get an objective view of what is happening.

I often say investors must view the industry in the same way I view American politics — it is impossible to sift fact from fiction. This is particularly true when it comes to the index (passive) vs the active fight.

All parties try to manipulate the narrative with “facts” that suit their particular view. It is no wonder the investment industry has such a bad reputation.

Index investing

I realised in 2008 that it was foolish in the extreme to ignore the obvious benefits of index investing.

The more research I did, the more I realised fund managers really struggle to beat the index, and one of the biggest reasons for their underperformance was their high fees.

However, as index tracking grew and took a greater share of the investment market, fund managers started to adapt and, most importantly, they reduced their fees.

Now, there are high-quality managers charging slightly more than an index, but there are also index products charging high fees, making the waters muddy indeed.

Over the last five years, I have moderated my views as the industry changed, and now believe in a 50-50 approach, that is half my money is in index trackers and half with fund managers.

The inconvenient truth for index trackers is the magnificent performance of certain fund managers, making it hard to ignore the potential value they have to offer investors.

I believe good fund managers offer the ability to reduce the risk of the index (consider the size of Naspers relative to the JSE and the tech shares in the US). 

Last, I am concerned that my money should be invested with companies that are serious about the environment and social inequality. Index providers are not yet able to give the right solutions to these issues and therefore fund managers have the advantage … for now.

The table above shows some of my favourite investments.

The HSBC MSCI World ETF is an index-tracking exchange-traded fund that tracks the world stock market. Over five years it has generated 10.5% a year in US dollars. Comparing that to one of my all-time favourite fund managers (Warren Buffett) with Berkshire at 10.2% a year, the difference seems minimal.

But Berkshire has a very limited allocation to tech and a massive allocation to cash — that is, it is much less risky than the index at the moment.

In turn, Impax is a great example of an investment delivering good capital growth while investing with a focus on sustainability — another inconvenient truth for index trackers.

The problem with Impax, however, is that it has a high allocation to overpriced, technology shares.

Finally, we see Scottish Mortgage, which is high-risk as they take large positions in growth companies. Its massive 33% return a year in dollars is another inconvenient truth for index trackers.

Over 10 years, this investment has delivered more than 20% a year while the index delivered 8% a year over the same period.

Don’t chase performance

Considering the information above, it would be tempting to sell out of all your investments to allocate everything to Scottish Mortgage (SMO). 

This could prove catastrophic for your investments as the SMO fund is massively exposed to tech companies at a time when tech is very expensive (even after the recent correction). It would be unwise to chase something that has already done well.

I would prefer to allocate a portion of my money to this type of investment and some to the index.

While the index seems a bit pedestrian by comparison, it is certainly more diversified and has exposure to better-value countries and companies than SMO.

Over time, a combination of index and active should work best. That means you will always have some parts of your portfolio that are working well while others are not, but the diversification should protect your capital when markets crash.

• Warren Ingram is the co-founder of Galileo Capital. You can follow him on @warreningram


Would you like to comment on this article or view other readers' comments?
Register (it’s quick and free) or sign in now.

Speech Bubbles

Please read our Comment Policy before commenting.