Multi-managers – are they worth it?

Patrick Norwood, Insight Analyst (Funds)

The philosophy behind multi-manager investing is that no single fund management firm can be best in every asset class. Instead, a multi-manager should seek out the best manager(s) for each class and then combine them accordingly. The big advantage of this type of investing is the larger opportunity set, which should in theory give a greater return for a given level of risk (or lower risk for a given level of return).

Also, managers with different styles can be selected to reduce risk or take active positions. For example, a manager with a ‘growth’ style can be combined with a ‘value’ manager, with equal weights. Growth and value managers should be negatively correlated, therefore combining them will lower the overall portfolio volatility (compared to investing in just a growth or value manager on their own). Alternatively, the multi-manager could give more weight (‘tilt’) to a growth manager if they expect that style to outperform going forward. Similarly, a small cap manager could be selected and given a meaningful weight if small cap stocks are expected to outperform.

The main downside to multi-manager investing is the extra layer of fees - the investor pays the multi-manager a fee to select and monitor the best managers and the multi-manager in turn must pay fees to the underlying managers, which are then passed on to the investor, although the multi-manager is often able to negotiate a discount with the underlying manager as they are investing a much larger amount of money than an individual investor.

In addition, the multi-manager may be able to lower costs further by using in-house managers for the asset classes they believe their firm to be good at but using external ones where their firm has no offering or they don’t believe their own managers have an advantage. To use the correct investment terms for the two extreme cases, an unfettered multi-manager can select from any organisation while a fettered one can only select from elsewhere in their own organisation.

Multi-manager funds can also be either fund of funds (FoF) or manager of managers (MoM). In the case of FoF, the multi-manager invests into the funds it believes to be best for each asset class on a pooled basis. With MoM, a segregated account is set up. The multi-manager can then, for example, choose their own benchmark for the underlying manager and/or set a specific outperformance target if they wish. A segregated account will normally be set up only for clients with large amounts to invest, so MoM is usually seen in just the institutional area, while FoF is the norm for multi-managers used by retail investors.

Multi-manager investing became very popular in the UK from the early 2000s onwards, for the reasons mentioned above. In recent years, however, the growth in multi-manager funds has been a lot slower. The main reason for this is believed to be the mixed performance seen for multi-managers as a whole over the last decade or so, making it harder to justify paying the higher charges, especially as advisers and investors have become more focused on costs. Indeed, the lower cost multi-managers investing in passive and/or in-house funds have generally fared better in terms of attracting and retaining business.