While trackers are generally considered to be a cheap investment – particularly compared with their actively managed rivals – research shows that there is a huge disparity in costs between different vehicles investing in the same market.
The total expense ratio (TER) of FTSE All Share trackers, for example, ranges from between 0.15 and 1.5 per cent – a difference of 10-times. The cheapest option is Vanguard FTSE UK Equity Index, while the most expensive is Halifax UK FTSE All Share Index Tracker.
While in some cases high expenses are impacted by tiny fund size, Bestinvest has nevertheless identified eight retail UK index funds that each have more than £100m of assets, including one of the biggest retail index trackers – Virgin UK Index Tracking.
The most expensive tracker funds
| Fund | Index followed | AUM (£m) | TER (%) |
|---|---|---|---|
| Virgin UK Index Tracking | FTSE All Share | 2,368 | 1 |
| Legal & General (N) Tracker | FTSE All Share | 1,174 | 1.15 |
| SWIP Foundation Growth | FTSE All Share | 715 | 1.13 |
| Aviva Investors UK Index Tracking | FTSE All Share | 606 | 0.93 |
| Scottish Widows UK Tracker | FTSE All Share | 408 | 1 |
| Halifax UK FTSE All Share Index Tracker | FSTE All Share | 366 | 1.5 |
| Marks & Spencer UK 100 Companies | FTSE 100 | 284 | 1 |
| Legal & General UK 100 Index | FTSE 100 | 202 | 0.8 |
Source: FE Analytics
The combined assets under management (AUM) of the funds on the list are equal to just over £6.1bn.
The Virgin fund is the largest on the list, with a TER of 1 per cent. By point of reference, Trojan Income – a five crown-rated actively managed fund headed up by FE Alpha Manager Francis Brooke – has a TER of 1.05 per cent.
While different techniques are used by different passive funds, such as full replication of every share in the index or holding a representative sample, Bestinvest says that cost has by far the biggest impact on performance, particularly in the long-term.
Jason Hollands (pictured), managing director of business development and communications at Bestinvest, said:
"The popularity of tracker funds is down to a combination of disillusionment with the record of fund managers being able to add value and an increased focus on costs."
"In our view there is a place for these funds in a portfolio yet they are not a panacea. And some clearly do not offer great value for money."
"Despite the highly commoditised nature of these funds, the breadth of fees being levied is now simply incredible."
"There is no point sticking with an index fund like Virgin’s, which has uncompetitive fees, when you may be able to switch to an almost identical fund from the likes of HSBC with a fraction of the cost."
"The list of funds we have identified suggests that investors with combined assets of £6.1bn could potentially cut their costs by at least two-thirds by switching providers," he added.
The Virgin fund allows investors to put in as little as £1 a month, which the firm says is one of the biggest reasons why the TER is above average, since smaller amounts are more expensive to administer.
However, costs have clearly had an impact on performance, even in the short-term. Over three years, the Virgin fund is up 28.07 per cent, compared with 31.86 per cent from its FTSE All Share benchmark.
The much cheaper Vanguard FTSE UK Equity Index fund has delivered 31.38 per cent – just 0.26 percentage points less than the index.
Performance of trackers vs index over 3yrs
Source: FE Analytics
The most expensive fund on the list – Halifax UK FTSE All Share Index Tracker – has fared even worse, with a return of 26.62 per cent.
While underperformance of 3 or 5 percentage points may not bother some investors, the impact of high costs over the long-term is significant.
All four of the FTSE All Share trackers with a TER of more than 1 per cent have fallen short of their benchmark by at least 24 percentage points over the last decade.
The costly Halifax tracker has underperformed by a massive 57.55 percentage points. Only 22 actively managed funds in the IMA UK All Companies sector have underperformed by more over the period. More than 174 funds in the sector have a track record of at least 10 years.
Performance of trackers vs index over 10yrs
Source: FE Analytics
The Vanguard FTSE UK Equity Index fund was only launched into the UK market in 2009, and so does not yet have a 10-year track record.
Ben Seager-Scott, senior research analyst at Bestinvest, says that the emphasis on cost effectiveness is especially important now as trackers are likely to become more popular in the coming years.
"The market for passive investments in the UK is heating up, partially because more advisers are prepared to use them in a post-RDR world where commission bias has disappeared," he said.
"The emergence of exchange traded funds and the appearance of Vanguard, a major US index player, on the UK scene have also helped fuel a price war among passive providers, which is clearly good news for investors."
"If you want to capture market Beta at low cost, rather than seek to outperform, there is no need to be paying more than 0.4 per cent per annum in fund fees for a tracker or ETF."
"What our research does clearly show is that despite these strategies being passive, it is still important to be active in your fund selection when choosing an index fund," he added.
In an article later today, FE Trustnet will highlight five of the cheapest passive funds available to UK investors.