Get somebody to do the boring work for you

Even the most adventurous explorer of the nether worlds of modern investment is likely to harbour a dark secret. Alongside an exotic portfolio stuffed full of hedge funds, frontier markets and alternative assets, they’ve probably got a number of funds that are sensible, mainstream, even – dare I say – boring.

I have a “boring” core portfolio. In fact, I’ve got two: one using exchange traded funds (ETFs) to track equity markets that are efficient and liquid, and another investing in dividend stocks for long-term returns.

John Authers, the FT’s investment editor, recently wrote on the importance of dividends, so I’ll leave that alone for now – suffice it to say that dividends are the only things in current markets that investors can truly rely on.

I think the trickier task is capturing the core returns from major indices. If you believe fund of fund managers, you should use them – their data suggests that they can (sometimes) find the best active managers, capture their alpha and pay their exorbitant fees. However, I suggest that these are the claims of inveterate gamblers who overestimate their ability to pick winners time and again.

I’d rather trust an alternative approach which is to mix and match asset classes in simple tracker vehicles that do what they say on the tin. You could assemble them yourself, but I’m not sure that I trust my judgment. Or you could entrust the task to independent financial advisers, although I’m not sure I would trust their judgment, either.

It would be far better if there was a cheap, off-the-shelf multi-asset index fund giving maximum diversification at low cost.

In the US, this is becoming a reality in the shape of a growing number of multi-ETF funds marketed by the likes of TD Waterhouse and Barclays’ iShares. These are simple creations and tend to come in two shapes.

The first is called a “target-date” fund and is aimed at investors looking to build up a retirement nest egg by a specific date. I’m a “very young” 42, so my target date would probably be around 2035. These lifecycle funds change in composition over time and, every five years you move into a new target date fund that changes the balance of assets between risky and non risky (the older you are, the less you invest in risky equities).

Then there is the multi-asset tracker, which is effectively a mixed pot of index-tracker ETFs or equity holdings – with the asset allocation dictated by an underlying index that’s usually marketed by the likes of S&P or Dow Jones.

The great attraction of these funds for adventurous types is that much of the boring work is done by the index fund provider, who assembles the mix of assets and sells the off-the-shelf fund for a total expense ratio (TER) of between 0.3 and 0.5 per cent a year.

Of course, this not the most optimised way of doing the boring leg work of asset allocation. In theory, fund of fund managers can spot great funds, time the market perfectly, and move with gay abandon between boring and insanely risky assets to capture momentum.

But even if these superheroes are out there, I’m not sure I’d want to trust them for the next 20-30 years. Fee-based financial advisers in the US seem to agree, and are already showing a preference for the ETF approach.

Here in the UK, a few clever fund managers are cottoning on to this boring, but cost-effective, idea. Seven Investment Management gets full marks for its Asset-Allocated Passives (AAP) fund architecture, although the expense ratios for are not quite the bargain that US investors are accustomed to. Seven has capped its TER at 1.6 per cent and, in most cases, it will be below this level. Still, that’s a far cry from the US sub-50 basis points. But it’s a good start.

Birmingham-based iFunds, working with Marlborough, has developed an alternative take on this idea. It is marketing ETFs that invest in assets ranging from commodities to global income stocks. But these are far from being passively managed. They actively take extensive short positions and hold large sums of cash in some cases – so the annual management fee is at least 1.75 per cent and there’s an initial charge. I think the idea of using ETFs should be to cut costs not ape fund of fund managers.

There are other players dabbling at the edges. John Redwood’s Pan Asset Management is pushing an active asset allocation portfolio approach using ETFs but its efforts are aimed at the very wealthy or smaller institutional investor. Castlestone Management is also offering an index-tracking commodity fund. Given the costs, I suspect UK investors with smaller sums may be tempted to invest in the US iShares funds and then hedge out the currency risk.

Or they might wait for the mighty Vanguard to launch its low-cost funds in the UK. Many US investors now run simple core portfolios using just three Vanguard ETFs: Total US Market (TER 0.11 per cent), Total US Bond Market (0.07 per cent) and Total World Stockmarket (purchase fee 0.25 per cent). Combine these three funds and you could have your own DIY total market fund for an annual expense fee of less than 15 basis points. The challenge is for Vanguard to bring this approach to the UK – or for someone else to beat them to it with a low-cost, asset allocation fund Any takers?

adventurous@ft.com