As our clients know, we prefer to refer to evidence around how best to invest money, and there are many studies showing that this ‘evidenced based’ approach proves the best solution over the longer term, and trying to predict where to invest for the future is futile. This article is proof that this approach is still the best solution, and is why we do not subscribe to investing in funds that are classified as ‘active’
Over a 20-year period, 95% of large-cap actively managed funds have underperformed their benchmark.
The above graphic shows the performance of actively managed funds across a range of fund types, using data from S&P Global via Charlie Bilello.
Several factors present headwinds to actively managed funds.
Below, we show how active funds increasingly underperform against their benchmark over each time period.
As we can see, 51% of all large-cap active mutual funds underperformed in a one-year period. That compares to 41% of small-cap value funds, which had the best chance of outperforming the benchmark annually. Also, an eye-opening 88% of real estate funds underperformed.
For context, Warren Buffett’s firm Berkshire Hathaway has beat the S&P 500 two-thirds of the time. Even the world’s top stock pickers have a hard time beating the market’s returns.
How about active funds’ performance during a crisis?
While the case for actively managed funds is often stronger during a market downturn, a 2020 study shows how they continued to underperform the index.
Overall, 74% of over 3,600 active funds with $4.9 trillion in assets did worse than the S&P 500 during the 2020 market plunge.
In better news, roughly half underperformed through the recovery, the best out of any market condition that was studied.
Of course, some actively managed funds outperform.
Still, choosing the top funds year after year can be challenging. Also note that active fund managers typically only run a portfolio for four and a half years on average before someone new takes over, making it difficult to stick with a star manager for very long.
As lower returns accumulate over time, the impact of investing in active mutual funds can be striking. If an investor had a $100,000 portfolio and paid 2% in costs every year for 25 years, they would lose about $170,000 to fees if it earned 6% annually.
Published on May 4, 2023