As steadfast passive investment advisors we are often confronted with many questions surrounding the ever present active vs. passive debate. While we know and expect that the available data and evidence strongly support a passive investment philosophy, it may not always be as apparent to the everyday investor. Knowing this, we thought that it would be a helpful exercise to cover some of the more frequently asked questions surrounding this debate and provide real data to support our position.
The Data –
Every year S&P Global publishes the annual SPIVA® (S&P Indices Vs. Active) U.S. Scorecard which evaluates whether actively managed funds are able to outperform their corresponding indices over different periods of time (1,3,5,10 & 15-years). Corresponding indices are a hypothetical portfolio of investment holdings which represents a segment of the market and index funds are close approximations of these indices. The key takeaway from the most recent report is no different than that of years past and that is the majority of domestic actively managed funds have underperformed their respective indices over long periods of time. In one (1) year periods you will find that a small number of active managers (31% of Domestic Equity Funds Outperformed for 2018) will be able to beat their respective benchmarks, however the likelihood of those same managers producing consistent results is very small. Over the 5-, 10- and 15-year time periods we see the number of outperforming domestic fund managers reduce significantly to 12%, 15% and 11% respectively (far less than a coin flip!).
Similarly, Morningstar® releases a semiannual report, Morningstar’s ® Active/Passive Barometer, that measures the net-of- fees performance of U.S. active funds against their passive peers. What makes this study different is that Morningstar® compared active funds against comparable passive funds (with expenses), not benchmark indices. The most recent study covered about 4,600 unique funds in total and spans over a 10-year period. This study found that just 38% of active domestic funds outperformed their passive peer for the year 2018, which is similar to the results we saw from the SPIVA® report. Additionally, and also similar to the SPIVA® report, you see a number of outperforming active funds reducing significantly over longer periods of time with just 24% of all active funds beating their average passive peer over the last 10 years (ending December 2018).
The S&P Persistence Scorecard, which is released semiannually, tracks the consistency of which active mutual fund managers outperform over consecutive 12-month periods. The Persistence Scorecard uses the University of Chicago’s CRSP Survivorship Bias Free Mutual Fund Database to rank available funds in the top-quartile and top-half in performance over non-overlapping three- and five-year periods. The Persistence Scorecard also tracks the amount of funds that are liquidated or consolidated in any 12-month period. The report illustrates that no one can accurately predict which actively managed funds will outperform in a given year, let alone over the longer periods of time.
In conclusion, all three (3) studies provide strong evidence that the probability of active managers consistently earning excess returns is extremely low. To answer the below FAQs, we will use these empirically robust third-party research reports as our basis to measure the success of active vs. passive investment philosophies.