Why star funds fade

Even the best-managed funds in the hottest sectors can suffer when share performances are going through a rocky patch.

Even the most successful investment funds have failed to escape the slump in share values without collateral damage. Storming past performance or a big-name fund manager is no guarantee of steady returns at a time when markets worldwide are plunging.

Even the most successful investment funds have failed to escape the slump in share values without collateral damage. Storming past performance or a big-name fund manager is no guarantee of steady returns at a time when markets worldwide are plunging.

A debate has been raging over whether highly-paid fund managers and their research- ers can deliver value to investors by outperforming stock market indices, or whether index-tracking funds, which simply track the progress of their chosen market, are a sounder bet.

At the end of the 1990s, tracker funds such as Virgin UK Index or Legal & General UK Index could cheerfully release figures showing that three-quarters of active fund managers performed worse than their benchmark index. Trackers were not only cheaper to buy, they argued, they also delivered the investment goods.

But over the last turbulent 12 months the tables have turned, with nearly 70 per cent of fund managers beating the UK All-Share index, say HSBC Asset Management figures. So should you be looking for a fund with a good manager to steer you through these troubled times?

Many financial experts say actively-managed funds can steer you through the bad times, because their fund managers are free to use their initiative to direct money to the smaller number of success stories.

Andrew Merricks, financial adviser with Simpsons of Brighton, says choosing a fund with a good manager is the only way investors can thrive. "Although most companies are seeing their share prices fall, there are still individual success stories. On Tuesday, the FTSE 100 fell more than 100 points, but the value of nearly 20 per cent of companies rose. This means a good stock-picking manager can still find genuine opportunities to boost returns." Trackers don't offer this opportunity. "It is impossible for a tracker to perform well now, they can track shares only down. This has handed fund managers a great chance to prove their worth," he says. "First, you should look for a fund that is not too big, because that will limit its ability to be sufficiently nimble to move in and out of promising stocks."

Mr Merricks says the successful and popular ABN Amro UK Growth, run by star fund manager Nigel Thomas, has also grown to the point where it is likely to prove a bit "cumbersome" at more than £500m. Mr Thomas is launching a new fund, ABN Amro UK Select Opportunities.

A list of the most successful actively managed funds over the last five years shows each has fallen over the past 12 months, with the worst performer plunging nearly 60 per cent, say Standard & Poor's Micropal. Fidelity American Special Situations, for example, may have returned a handsome 194 per cent over the last five years, but those investing 12 months ago will be nursing losses of 39 per cent. Henderson Global Technology, which returned 182 per cent over five years, fell 58 per cent over the last 12 months. And star managers are not immune, with ABN Amro UK Growth, which delivered 177 per cent over five years, falling 27 per cent over the last 12 months.

Another drawback is that fund managers tend to leave - the average stay is three years. If you buy a fund on the back of past performance, but the manager responsible has left, you are buying an unknown quantity, says Mike Rostron, director of MGP Investment Management. This occurred with Solus UK Special Situations, the top-performing fund over the last five years, which delivered a whopping 319 per cent over that period. It was also managed by Mr Thomas, who recently quit.

Mr Rostron says the best fund managers can still deliver despite falling returns. He selects Bill Mott at Credit Suisse Income and Neil Woodford at Perpetual High Income as managers bucking the downwards stock market trend.

The top 10 ISA funds sold discount broker Wiseup.com's website are actively managed funds. Fidelity Healthcare tops its list, followed by ABN Amro UK Growth, global themed fund Aberdeen Global Champions, Henderson European, Save & Prosper Premier Equity Growth and Framlington Health. Wiseup.com's figures also show healthcare as the investors' favourite sector, accounting for three out of every 10 funds it sells online. Martyn Page, head of research at Countrywide Independent Advisers, says the popularity of these funds shows many investors have failed to learn from the technology slump, and are still prone to leap into hyped-up sectors. Six months ago, Framlington Health was the UK's top-performing unit trust. But its value fell by 20 per cent since.

Fans of actively-managed funds who believe a star manager or a hot sector offers an escape route during stock market woes should brace themselves for a bumpy ride. There is no guarantee that even the best fund manager can triumph over today's market troubles.