Retail investors may be failing to understand key issues with passive fixed income funds and are risking potentially significant under-performance, according to a new report.

Investors switching to passive fixed income funds - instead of taking an actively managed approach - are focusing too much on lower management costs rather than performance, according to the report from investment manager Rathbones.

Active fixed income funds across all sectors saw outflows of £15.9bn between 1 January 2022 and 31 March this year, in comparison to inflows of £14.3bn for passive funds in the same period.

The first quarter of this year has seen outflows of nearly £2bn (£1.99bn) from active fixed income funds, while passive funds reported inflows of £878m.

According to Rathbones, its actively-managed Ethical Bond Fund has out-performed fixed income holdings in well-known passive funds by more than 10% over the past five years.

Over the past 10 years growth was over a third higher in the same actively-managed fund than bonds in popular passive funds.

Source: Rathbones analysis of Investment Assocaition and Morningstar data, 5 June 2025

Bryn Jones, head of fixed income at Rathbones, said: “Assets under management in passive fixed income funds have held up despite there being significant under performance in general and the significant difference in flows recently is really striking.

“Too many clients are focusing on price when they select fixed income funds, with the result that they opt for under performance while not fully understanding the option they are taking. There is too little consideration given by the industry in general to the switch to passives in the fixed income sector and the reality is that it is not always a good investment outcome for clients.”

Investment grade passive fixed income funds are forced to sell firms which have been downgraded within a certain timeframe, which can lock in capital losses, says Rathbones. They may also exclude firms which are not investment grade.