Proponents of active investment management believe that skilled managers can outperform the financial markets through security selection, market timing, and other efforts based on prediction.
While the promise of above-market returns is alluring, investors must face the reality that as a group, US-based active investment managers do not consistently deliver on this promise, according to research provided by Standard & Poor’s .
S&P Indices publishes a semi-annual scorecard that compares the performance of actively managed mutual funds to S&P benchmarks.
The report analyzes the returns of US-based stock and fixed income managers investing in the US, international, and emerging markets.
Over the last five years:
- About 60% of actively managed large cap US stock funds did not beat the S&P 500
- 77% of mid cap funds did not beat the S&P 400
- two-thirds of the small cap manager universe did not outperform the S&P Small Cap 600 Index
- Underperformance of active strategies is particularly strong in the international and emerging markets, where trading costs and other market frictions tend to be higher.
Furthermore, across the thirteen fixed income fund categories, all but one manager experienced at least a 70% rate of underperformance over five years.
Proponents of active investment management will simply say buy managers who can outperform the market. Of course, a couple problems occur with this strategy:
- It is impossible to identify managers who will outperform the markets in the future.
- Most managers who have outperformed the markets cannot consistently do so in the future.
The message is clear: As a group, actively managed funds often struggle to add value relative to an appropriate benchmark—and the longer the time horizon, the greater the challenge for active managers to maintain a winning track record.