SmartInMoney

 

 

 

Recent studies provided more evidence that the failure of active management in beating their benchmark index is replicated across almost all categories, not only U.S. stock funds but also bond funds and even emerging-markets funds. What's more, those numbers are similar to the previous five-year cycle. The numbers come from S&P and are supported by research from Morningstar Inc.

 

A new study by Mark Kritzman found that it is very hard, if not impossible, to justify active management for most individual, taxable investors over a long term. To break even with the index fund, net of all expenses, the actively managed fund would have to outperform it by an average of 4.3 percentage points a year on a pre-expense basis. Only miniscule percentage of domestic equity mutual funds in the Morningstar database beat the Standard & Poor’s 500-stock index by at least four percentage points a year, on average.

 

 

A new study from Standard & Poor's finds that majority of large-cap fund managers who use the S&P 500 as a benchmark for comparison have failed to match the performance of the index over the last five years ending Dec. 31, 2008. The S&P 500 beat 71.9% of U.S. actively managed large cap funds although the index dropped 18.8%, according to S&P Index Services. This recent calculation signifies the previous five-year result that showed 53% of large-cap funds lagged the index.

 

Things were even worse for small-cap active managers. The S&P Small-Cap 600 outperformed 85.5% of small-cap funds. That index was down 0.6% over the five years to Dec. 31. The small-cap finding questions a prevailing myth that small cap is more of an active managers' market because the small-cap market is inefficient and needs active management.

 

Even most emerging-markets funds lagged their comparable S&P index. The S&P/IFC Emerging Markets Index bested 89.8% of actively managed emerging-markets stock funds in the past five years.

 

Actively managed bond funds also struggled. Except for high-yield funds, at least 80% of bond funds lagged their comparable benchmarks across all categories. Bond benchmarks are not as easy to replicate by index funds due to liquidity issues.

 

 

Morningstar found that across its nine U.S. stock styles, the average mutual funds fail to beat its respective S&P index in seven style categories over the five years through Mar.31, 2009.

 

The average mutual funds also underperformed Russell indexes and Morningstar indexes in six style categories over the same timeframe.

 

Over 10 years the average funds beat the S&P indexes in five of the nine categories. They also won all but one of its category Russell and Morningstar indexes.

 

 

A new study by Mark Kritzman, a president and chief executive of Windham Capital Management of Boston, measured the long-term impact (20 years) of transaction costs, taxes and management and performance fees in investing in a mutual fund or hedge fund. “It is very hard, if not impossible, to justify active management for most individual, taxable investors, if their goal is to grow wealth”, he wrote in his study presented in the Feb. 1 issue of Economics & Portfolio Strategy.

 

Mr. Kritzman’s study found that just to break even with the index fund, net of all expenses, the actively managed fund would have to outperform it by an average of 4.3 percentage points a year on a pre-expense basis. For the hedge fund, that margin would have to be 10 points a year.

 

Morningstar database for the 20 years period through January 2009 shows that just 13 out of 452 domestic equity mutual funds beat the Standard & Poor’s 500-stock index by at least four percentage points a year, on average. It’s less than 3 out of every 100 funds. Therefore, the chances of finding superior funds that can best index funds are minuscule, according to Russell Wermers, a finance professor at the University of Maryland, as quoted from The New York Times.