Barking up the wrong fund

Prepare for the big ISA sales pitch. Over the next three months fund management companies will be spending millions of pounds on advertising campaigns to convince you that their ISA is the best. Financial advisers will echo their words of praise in the hope of earning juicy commissions and some will take advertising from fund companies in order to "recommend" their funds in their "research" publications. It's a cosy arrangement. Anyone would think the fund management industry was a story of unblemished success.

Prepare for the big ISA sales pitch. Over the next three months fund management companies will be spending millions of pounds on advertising campaigns to convince you that their ISA is the best. Financial advisers will echo their words of praise in the hope of earning juicy commissions and some will take advertising from fund companies in order to "recommend" their funds in their "research" publications. It's a cosy arrangement. Anyone would think the fund management industry was a story of unblemished success.

However, whilst fund companies are keen to talk up their achievements it's no wonder that they would rather stay quiet about their "dog" funds. A dog fund is one that consistently under performs its benchmark. For most UK stockmarket funds the benchmark will be the FTSE All Share Index, the broadest measure of the London Stock Exchange. If a fund manager can't beat the benchmark more regularly than they fail to beat it then frankly you might as well have given up and bought a lower cost index tracker fund.

Every six months Bestinvest publish a report called "Spot the Dog" which names and shames the "dog" funds of the last three years. There's little doubt that many City firms of fund companies would rather it wasn't published. After all, most Independent Financial Advisers oblige by only tell their clients to buy new investments rather than highlight poor products. To be featured in "Spot the Dog" a fund must under perform for three consecutive years and by more than 10 per cent over the entire three-year period. The first test is to identify a consistent trend of underachievement and screen out good funds that have been pulled down by one unlucky year. The second test screens out index tracker funds that are doomed to slightly under perform each year because of their running costs.

The latest report, issued this week, rounds up some £9.116 billion of investment canines. This represents a significant drop from the £16 billion identified just six months before, a sign that fund managers have generally performed better than the index in recent times. However, the news is not all good because the report reveals that 43 per cent of the dogs listed are now managed by just one company, Scottish Widows.

Yet this alarming statistic cannot wholly be blamed on Scottish Widows because many of the funds were previously managed by Hill Samuel. However, following the purchase of Scottish Widows by Lloyds TSB all funds for the combined group , including Hill Samuel and Abbey Life, are now managed by Scottish Widows. What the report does highlight is the challenge that now confronts Scottish Widows to turn the business around.

So, what should you do if you hold a "dog" in your investment portfolio? The answer is to review the case for keeping it. "Spot the Dog" is certainly not a blanket "sell" list. Some poor performing funds can be turned around if a new capable team is hired to take over. Two such funds listed in the new report are Old Mutual European Growth and Aberdeen North American. The former has recruited Adrian Farthing, former manager of the successful TU European fund, whilst the latter fund has hired Katherine Garrett-Cox a highly regarded former Hill Samuel manager. It would be crazy to ditch such funds given the prospect of a revival. That said, if a fund cannot demonstrate a clear driver for improvement then it makes sense to move elsewhere.

Manager change is rife in the UK fund management industry and the report highlights the fact that 65 per cent of the funds listed have experienced a change of manager during the last three years alone. Companies merge, top managers get poached by the competition, failing managers get sacked and many others disappear into the world of hedge fund management where astronomical performance related fees can be earned.

Just as a dog can be transformed by a change of team, star funds can fall out of orbit if they lose their fund manager. All of this highlights the need to keep a close eye on your investments. If you do need to get out of a dog fund it is important to watch out that you don't get further punished by high transfer charges. The initial charges on funds are typically between 3 - 5.25%. However, these can be reduced, often to nil, if you transact the switch through a discount broker who will waive the commission on the switch to buy you extra units in the new fund.

Whilst "Spot the Dog" isn't a "sell" list, it is a wake up call for investment companies, investors and financial advisers. Poor performing funds need to be exposed to encourage investment companies to put their house in order and investors need to appreciate how important it is to keep vigil over their investments.

Some of the biggest culprits are financial advisers who enjoy ongoing commissions on most PEPs and ISAs. So, as the April tax year deadline draws nearer investors should be as discerning about the services offered by the advisers they are going to deal through as they are about the choice of ISA.

* Jason Hollands is deputy managing director of Bestinvest. To obtain a free copy of "Spot the Dog" telephone 0800 037 0100