Active managers can and do outperform their indexes, and investors can identify managers more likely to outperform in advance, according to “A More Balanced Narrative – Setting the Record Straight on Active Management,” a new white paper positing that the conventional wisdom on active management is oversimplified.
The white paper, presented by the Investment Adviser Association’s Active Managers Council (AMC), examines the current narrative surrounding active and passive investing and challenges the three most common criticisms of actively managed investments: active managers don’t outperform their indexes; active managers can’t outperform their indexes; and identifying above-average active managers isn’t possible.
In fact, active managers are doing well in some categories and poorly in others. The narrative that passive is winning almost everywhere isn’t supported by either standard total return comparisons or asset-weighted return estimates, argued white paper author David Lafferty, AMC Chair and Natixis Investment Managers senior vice president and chief market strategist.
“The growth of passive investment strategies is well-deserved, but in recent years, the narrative between passive and active has become unbalanced,” Lafferty said.
“This paper presents a more balanced discussion of the factors that drive relative performance between active and passive investing, examines the methodologies for comparing the two approaches, and argues that passive investing is raising the bar for active managers,” he added.
A few of the key findings from the paper include:
• Many Active Managers Do Outperform: The popular narrative has been that active managers are underperforming across all styles and during all periods. However, a review of the data shows that the relative performance of active and passive managers varies across both styles and time periods.
“This is not an attempt to gaslight academics or researchers studying active and passive management. It’s simply a reminder that results are dependent on assumptions and far from precise,” according to the white paper.
A look at two popular “scorecards,” the Morningstar Active/Passive Barometer and the S&P Index Versus Active (SPIVA) report illustrate this point. For the three years ending 2018, Morningstar reported that 59% of mid-cap growth funds outperformed the passive alternative while SPIVA reported that only 46% of mid-cap growth funds outperformed. The dispersion between the two scorecards was even wider in small-cap growth, where Morningstar reported 51% of active funds outperforming to SPIVA’s 24%.
“To read the headlines, you’d think active management lags in all places and nearly all times. In fact, it’s largely in US large cap stocks that the data has been sub-par recently for active managers, but this is hardly the message investors hear,” according to the white paper. “Yet the difficulty that US large cap blend managers have had beating the S&P 500 – the largest category with the most well-recognized benchmark – has been incorrectly extrapolated to convict active managers across all the other categories.”