Should you copy Britain’s best fund managers, or buy their funds?

Portfolio management fees are an extremely important consideration when building long-term wealth – and with active equity and bond fund managers charging anywhere from 0.6% to 1% a year (with 0.8% being about average) to pick stocks for customers, they are usually the biggest fee a retail investor pays.

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So, what’s stopping an investor from replicating the portfolios of Britain’s best managers and saving on fees? Open-ended funds publish their top 10 positions each month, and investment trusts reveal their entire portfolio every year via an annual report (and most issue monthly portfolio updates as well).

We look at the pros and cons of copying fund managers rather than investing in their funds.

Reasons to go it alone

Taking inspiration from fund managers makes the most sense when they do not change their portfolios very often. So-called buy-and-hold investors, such as Nick Train or Terry Smith (pictured below), have built their funds and reputations around sticking with high-quality companies that are heavy researched and backed to perform over the long term.

UK names that Smith and Train have backed for a long time, and that still appear in their portfolios, include consumer goods giant Unilever and alcoholic drinks firm Diageo, which owns the likes of Guinness and Smirnoff vodka.  

Train, who has been managing UK portfolios for more than 40 years, is almost evangelical about the prospects for Diageo, saying last year that it is the one stock that everyone should own.

Speaking to professional investors he said: “I sincerely hope that Diageo is a core holding in everyone’s mandates here. Whether it is a UK mandate, global equity mandate, or even for your personal accounts. Everyone should own some of this, the world’s best alcoholic beverage business.”

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In his Finsbury Growth & Income trust, two companies command even large positions: RELX at 12.4% and London Stock Exchange Group at 11.2%.

Smith still has a top 10 position in one share since he launched his Fundsmith Equity fund in November 2010: Microsoft, but other companies have been held for a long time, including tobacco company Philip Morris, medical devices company Stryker, and flight data firm Amadeus.

Smith’s mantra is to “buy good companies” and then “do nothing” and “not overpay”, which means that DIY investors could pick one of his favourite firms and wait for a share price slump before buying. Brave investors could have bought Microsoft shares for $220 in November last year. They now trade at $329, near a record high.

However, Smith has been relatively active over the past two years, selling out completely of a handful of companies, including Amazon, Estee Lauder, PayPal, Intuit and Adobe, so backing one of his companies does not necessarily align you with his approach.

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Victoria Scholar, head of investment at interactive investor, says that the portfolios of top fund managers can be a useful starting point for equity research, but investors should always do further work on a company before investing.

She said: “Buy-and-hold investors such as Nick Train and Terry Smith know what they are doing when it comes to finding good companies, and have been known to hold on to shares for more than a decade to let profits and dividends compound.

“But that does not mean that they won’t sour on holdings and sell them from portfolios. Always do your own research before investing and make sure that you are comfortable owning a company and understand the risks attached to it.”  

Reasons to stick with a professional  

There are a number of pitfalls to simply copying the top shares that a professional investor owns. The first is that trading fees can add up, which includes foreign exchange fees for international shares, especially if you want to build a 30-stock portfolio, which is what concentrated professionally managed portfolios will typically own.

Fund managers, due to buying shares in bulk, typically will be getting a more attractive deal than a retail investor. They also employ professional traders to stagger deals over extended periods to get the best prices.

It is also worth noting that professional investors have teams of analysts, expensive data providers and years of experience picking stocks, managing risk and creating diversified portfolios. Much of the value they offer goes well beyond simply picking the right company, and includes when to buy it, how it fits in with the rest of the portfolio and how big the position should be.

Therefore, simply copying the trade once it appears in the top 10 could mean that a lot of the opportunity has already been missed as shares may have been bought at a lower price before. Smith, for example, likes to slowly build up positions in companies and only when he has full confidence will they make it into the top 10.  

Professional investors also have access to the management of a company and can therefore gather information about their strategy, while investors at home have to be satisfied with quarterly earnings reports. This, in theory, combined with expert research and accounting skills, should put the professionals in a better position than someone at home to successfully find winning shares.

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Scholar adds: “Some investors love stock picking, but others find it more difficult as building a diversified portfolio through stock picking alone can be tricky and time consuming. One way around this is to invest in funds. They offer built-in diversification and save you the effort of having to pick and track each stock within your portfolio. Since your actively managed funds will be looked after by a full-time fund manager, you don’t need to spend every day watching the markets, as they will do that work for you.”

She also says that investing in funds comes in handy when you have a strong conviction towards a certain geography or a sector such as the United States or technology, but you feel unclear around which stocks to buy to express that view.

“A fund might invest in a basket of stocks that align with your investing goals, also helping to spread risk,” she said.

Overall, many investors take a hybrid approach, investing in some individual stocks where they feel comfortable, with funds added on top to provide greater diversification across geographies and asset classes.

Scholar notes that if someone has expertise in a specific businesses area due to academic or professional qualifications, that might be an area where they have an edge over even professional fund managers when it comes to stock picking.

The most-popular shares among UK-based fund managers

For investors looking for inspiration, these are the most-popular shares held by fund managers in Britain over the past three months, according to data provider FE Fundinfo.  

Top is Microsoft, with 2.1% of funds holding the US tech giant. The next eight most-popular shares are all UK firms: BP, AstraZeneca, Unilever, HSBC, Rio Tinto, RELX, GSK and Diageo. Other big international shares to feature prominently include Nvidia, Apple, TSMC, Amazon and Samsung.

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The list is what you would have expected, with the largest companies generally the most held, but there are some interesting nuggets of insight to pull from it.

For example, Microsoft is more than twice as popular as Apple, despite being a smaller company. BP is about four times as popular as Shell, despite being the smaller of the two oil giants. There’s also relatively little professional fund manager interest in tobacco shares, despite their big profits and high dividend yields.

This list should be taken with a grain of salt, as there is a natural bias towards UK and US shares, due to the popularity of funds investing in these areas, but it does provide insight into what the pros are investing in.