In your workplace pension, your savings will be squirrelled away in shared investment pools called funds.
Savers like you have clubbed together to buy shares in companies, bonds, property or other assets and you own a share of this fund. It’s a cheap way of investing in a number of assets, splitting the risk.
There are thousands of funds, but they divide between two broad types. Active funds, where a manager decides what to invest in, and passive, also known as index or tracker funds, which just mimic a market such as the FTSE 100 in London or Wall Street’s S&P 500.
In recent years, there has been a shift in investing from active funds, which cost more because of their staff of decision-makers and researchers, which may eat up 1-2 per cent of their value per year, to cheap index funds which may cost as little as 0.07 per cent.
Do these percentages look like piddling amounts not worth comparing? Let’s do some quick maths.
Let’s say, for ease of round numbers, you have a pensions pot of £50,000 which grows at five per cent per year. If you pay fees of 0.25 per cent, after 30 years with no fresh deposits, your £50k would be worth £201,183 because of the magic of compound returns.
After all, your five per cent growth is only being shrunk by 0.25 per cent in fees.
But on fees of 1.25 per cent, a quarter of your five per cent returns are getting chewed up and you will have £150,875 – more than £50,000 less and all because of that extra one per cent fee.
If you want to keep that extra fifty grand in your pension for your retirement, read on.
According to investment firm AJ Bell, only a third of active funds have grown quicker than a cheaper, passive alternative in the last 10 years.
Statistics like this have helped encourage savers to withdraw £100bn from actively managed funds in the last three years, according to the platform.
Active managers’ woes have been accelerated by the dominance of the so-called magnificent seven tech stocks including Apple, Alphabet, Meta, Nvidia, Tesla, Microsoft and Amazon. No need to pay for a fancy (and expensive) fund manager to tell you what you already know – tech stocks are growing and you can buy a cheap fund investing in US stocks to access them.
And with the S&P 500 in the US returning 23 per cent in the last year and 88 per cent in the last five years – returns mirrored in the tracker funds which use the same investments - active managers have a hard time competing and beating that sort of growth.
Laith Khalaf, head of investment analysis at AJ Bell said: “Passive investors say we will have that market return, thank you, without doing the leg work, we just won’t charge the fees.
There are few signs that active managers make a comeback, said Mr. Khalaf, unless stock markets take a nosedive and investors start looking for expertise again.
For young investors looking to invest solely in stocks, because with decades until retirement, they can shoulder the risk, there are few better investments than a tracker that takes in all the world’s stock markets, he said.
Called global trackers, they take in companies in the US, Europe and Asia mainly, with small allocations to every other listed company sector.
“If you want a one stop shop and you’re a younger person who wants to take the risk of a global equity fund, a global tracker is where it’s at.”
A word of warning: it does come with risk. Trackers are weighted towards the bigger companies, and with firms like Apple and Microsoft tipping the scales at more than $3tn in value apiece, you can find that about a fifth of your investment is just in the magnificent seven mentioned earlier.
“I think it’s worth being aware of that risk. Once you’ve started investing in a global tracker fund, start upskilling yourself and make more active calls if you need to,” Mr. Khalaf added.
Another way to mitigate risk is to save and invest regularly. Then even if there is a market downturn you are buying at a cheaper price.
When investing, your capital is at risk and you may get back less than invested. Past performance doesn’t guarantee future results.
