Iain Barnes, head of portfolio management at Netwealth, offers three lessons to learn from the trading suspension of Neil Woodford's Equity Income fund.
Liquidity and the three pot theory
The issue of poor liquidity in everyday funds rears its head once again. We have now seen two high profile instances in the past year of funds managed by stars and sold to unsophisticated investors 'gating' assets [GAM and Woodford], as a result of a mismatch of liquidity.
Unusually, the 'gating' has not taken place at a visible point of crisis, in contrast to hedge funds during the credit crisis and property funds after the Brexit referendum.
Evidently, in an effort to differentiate themselves from the pack of similar managers, the temptation to hide risks behind not needing to mark private assets to market is too much for some.
In contrast, we work on the basis of the Three Pot Theory. This means investors should keep their three investment pots of cash, steady and liquid assets, and exciting higher return, yet illiquid investments distinct from one another.
We worry that all too often managers merge the boundaries between pots two and three and that clients don't fully understand this and the potential ramifications.
Platforms' duty of care over content
There is an implicit duty of care around how platforms like Hargreaves Lansdown populate their fund recommendations.
Just like the growing expectation for social media companies to take responsibility over the content they provide access to, there is an obvious question around whether platforms need to take more of a fiduciary responsibility over the direction of client money.
While the Retail Distribution Review raised the bar on the transparency of the financial advisory world, now is the time for more information on the relationships between fund managers and their largest distributors.
I am sure this is something the Financial Conduct Authority and others will be looking at further in light of recent events.
Michael Mauboussin's theory about the Paradox of Skill boils down to how difficult it is to stand out in a given field when everyone is getting better. Nowhere is this more pertinent than the investment world given that information flows so freely about different market opportunities.
In practice, the lack of low-hanging fruit to pick makes outperformance harder, tempting even the most talented managers to stretch beyond their area of expertise to deliver on the promise of outperformance.
Perhaps we are now at a point where clients would do much better focusing on investors who deliver efficiency and manage expectations accordingly.