Investors are often told to avoid funds with less than £100m of assets under management (AuM) on the premise that they are sub-scale and might have higher fees than many funds with similar investment mandates. However, performance statistics would suggest some of these tiddler funds might still be worth a look.

Data from Fe Fundinfo shows that of the 4,505 funds in the Investment Association universe, 1,257 funds outperformed their benchmark by more than 1% over the past year. Of the market-beating funds, one third had less than £100 AuM.

Admittedly this is only one year’s worth of data, but it presents an interesting picture.

PROS AND CONS

So why does it matter how much money a fund is running? For one reason, investors need to be sure that a fund is capable of generating enough fees so as to be able to pay its manager or managers, as well as support staff, to a good job.

Writing in 2017, Leola Ross, Russell Investments’ director of investment strategy and research, said: ‘Less AuM to manage means, in the simplest terms, more nimbleness when it comes to finding upside opportunities and managing against uncompensated risk. This is especially true in portfolios with liquidity constraints.’

US-based Russell Investments has been running fund performance studies for the past few decades and when it comes to active managers, one preference that has stood out over the years is the scope for managers with a relatively small AuM to beat their larger cousins.

‘We believe skilled active managers with relatively smaller AuM may have a performance advantage over their higher AuM counterparts,’ added Ross.

The cons of smaller AuM funds include cost, according to Simon Molica, a fund manager at AJ Bell. ‘Large funds can have significant cost attractions as they benefit from scale, so fixed costs become lower when spread across more assets,’ he says.

Morningstar warns that if the fund companies aren’t recouping the costs of running funds with smaller AuM, then their existence is effectively being subsidised by fees on other funds the asset manager might run, ‘suggesting that even investors in perfectly good funds could have lower fees if firms were more disciplined in closing tiny funds.’

Investors should also think about whether an asset manager would really be committed to a tiny fund if they couldn’t attract more inflows. Molica says he would certainly have concerns about the viability of a fund if the investment house couldn’t grow it and it is not profitable.

CUTTING COSTS

Dominic Fisher, founder and manager of the £15m VT Thistledown Income Fund (BNGXQZ0), says it is still
possible to cut costs even if a fund is small.

He gives the example of the falling cost of data services for research working in lower AuM funds’ favour. ‘We use Factset and CapitalIQ’, says Fisher. ‘Many years ago these types of services were very expensive but the price has come down appreciably, and that’s great for smaller funds.’

Such tools are vital to asset managers who don’t have large teams of analysts to help the fund managers with their research. However, one could argue that funds with limited AuM – particularly those looking at the whole of the market – are still at a disadvantage if the managers are overstretched due to a lack of resources.

SMALL AUM, HIGH RETURN

October 2018 saw the launch of FP Octopus UK Multi Cap Income (BG47Q33), run by specialist small and mid-cap stock picker Chris McVey. While he benefits from being part of a large team at Octopus which invests in various parts of the quoted and unquoted market, it is fair to say that the income fund’s current AuM of £12.6m might seem disappointing in the context of the £1bn+ Octopus manages for venture capital investors.

‘Launching into negative flows is always challenging’, says McVey, referring to the fact that his fund hit the market at a point when many big investors had turned their back on UK stocks. However, a strong debut performance for the fund might help to encourage more interest.

Octopus UK Multi Cap Income is the best performing fund in the IA UK Equity Income sector over the past 12 months (+32.4% total return), beating some really big funds including the £5.3bn Artemis Income Fund (B2PLJJ3) which returned 19% and the £2.3bn Schroder Income Fund (B3PM119) which achieved a meagre 2.3% return.

The accompanying table illustrates how some of the really tiny funds – as measured by AuM being below £30m – can still generate good returns. However, what’s done well in the past may not necessarily do well in the future.

Ultimately an active fund is only as a good as its manager or managers’ asset picking skills and investors will still need to research the market very thoroughly to separate the winners from the losers. Just don’t automatically write off the tiny funds without further investigation as there may well be some golden nuggets out there.

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