As Frontier Investment Consulting progresses through its Australian equities review season, its preference for the ‘core’ portfolio has become more entrenched – and that’s not good news for low tracking error active managers of domestic shares.

Senior consultant at Frontier IC, Allison Hill, confirmed that the house continued to favour a ‘core’ Australian equities portfolio that was run on either a passive or enhanced passive basis.

“From a risk budgeting perspective we think that’s the best way to get your broad market exposure,” Hill said.

Surrounding a low-fee, passive or enhanced passive core with high-conviction or concentrated satellites, potentially including some specialists in the mid-, small- or micro- cap sectors, had been working well for Frontier’s clients, according to Hill.

In the five years to June 30, 2010, the median long-only active manager in the Mercer Performance Survey for Australian Shares returned 5.6 per cent, 1.1 per cent more than the S&P/ASX 200, however the figure does not include the affects of fees and tax.

On the tax question, Frontier has one industry fund client – HESTA – which has gone enthusiastically down the route of measuring its Australian equities managers on an after-tax performance basis, however Hill said the consultant had not gone so far as to urge other clients to do the same.

She said the best after-tax benchmark was a customised one that mimicked the cashflows into a fund’s portfolio, but the creation of such a benchmark came at a cost. She added that the monitoring required to verify that the best after-tax performance outcomes were being received, particularly where a fund decided to pay managers incentives based on those outcomes, was difficult for funds without an internal investment team.