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Ask Justin

Ask Justin

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Are smart trackers worth considering?

Investment | Trackers Helpful? 12

Asked by hdeakin299, submitted 31 May 2013.

Open Quote What will be the significance of the new 'smart trackers'?

Does the Schroder QEP US Core Fund fit into this category? And finally, if there is a future for these, what form will they take: fund or E.T.F?
End Quote

Answered by Justin on 23 August 2013

So-called 'smart' trackers sit somewhere between conventional tracker funds (which simply aim to mirror a specific index) and actively managed funds (where the manager aims to use their skill to beat the index).

The potential issue with conventional trackers is that many of the indices they track are 'weighted', that is larger companies dominate the index. So your money may largely be invested in just a few companies. There is also an argument that companies enter an index when they are expensive and fall out of an index when they are cheap, meaning trackers buy high and sell low.

Nevertheless, trackers tend to consistently perform better than many actively managed funds, suggesting the majority of fund managers are just not that good at their job and/or don't do enough to compensate for high charges.

Smart tracker type funds tend to take an index as a starting point but add some extra criteria on top. For example, they might select stocks based on dividend yields. In theory this sounds quite nifty, but in practice they might end up doing better or worse than conventional trackers, much like actively managed funds. Success depends on the criteria used, charges and how the technique fares in the market overall - selecting stocks based on dividend yield may do well when markets struggle, but lag when markets post strong gains.

The Schroder QEP fund range uses a lot of number crunching (called ' quantitative analysis') to select stocks from a wide universe, rather than the traditional hands on analysis approach used by many active managers. I wouldn't call these funds smart trackers as such since they don't tend to use an index as a starting point, they're more actively managed funds run by complex computer algorithms.

I think there is a future for funds using quantitative management techniques (although it’s not new, some have been around for years), but as with all actively managed funds there will be those that succeed and those that don't, based on the quality of their algorithms and market climate. The key, as ever, is not to place all bets on one investment technique.

As for funds or ETFs, we've already seen smart tracker type funds emerge in both and I'd expect that to continue, albeit ETFs are probably the more natural home if managers want to attract larger investors.

Please note this answer does not constitute a recommendation or financial advice and should not be relied upon when making specific investment or other financial decisions. You should always undertake your own research into whether a product or service is appropriate for your needs and, if necessary, use a qualified professional adviser.

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Readers' Comments (1) - To post a comment please register or login .

Comment by hdeakin299 at 10:42am on 02 Oct 2013:

Hi Justin

On the use of the word" Smart" David Hayward writes ( Micro Mart Issue 1279 , Page 97) :- "Historians of the 22nd century will no doubt look back at us now and laugh in amazement at how the human race came to the conclusion that adding the word "smart" to everyday items would yield a hundred fold profit" He continues :-"There's no escaping the fact that we are now surrounded by smart towels , smart umbrellas ,smart shoes , and smart everything else. It's quite ludicrous really , when you stop to think about it."And ,as we know. there are the "Smart trackers". But I am still conceptually confused about what variants there are.The possibilities include:-

1)The "marketing hype idea": in other words there is no substance to the idea it is just hype to sell a more specialized type of trackerThe "Continuum" approach re. degree of index specialization is a , variant of this:-With this argument the proposition is that there is a continuum of indices ranging from generalist to specialist . Some pre-existing specialist indexes have been renamed "smart" by the marketeers but they are really nothing new except for the marketing. From this continuum some are selected for the smart treatment marketing wise.

2) Another idea is that :-New indices are created specially so that they can be used and licensed to new product providers for marketing as smart .Is it true?

3) Or :-The existing indices are adapted or "weighted" by the new product provider (ie tuned or tweaked) by adding additional criteria to an existing index.

Which of these applied to these so called smart (or tuned trackers)? And how many varieties of the tuning process exist?

Kyle Cauldwell in the Telegraph 14 9 2013 cites Jeff Molitor chief investment officer of Vanguard Europe who said :"Investors in these funds risked focusing on too small a part of the stock market" And "What is "good" in one period will often turn "bad" in the next" . So who is right and why?