From the Financial Times (11/11/2014): “Fewer fund managers are beating the market this year than at any time in over a decade, piling further misery on a profession that faces increasing investor scepticism.”
Among actively-managed U.S. large-cap equity funds, “Only 17.7 per cent are beating the Russell 1000 index of large-cap stocks so far this year. That compares with 40.5 per cent for 2013 as a whole.” Since 2003, “there has only been one year–2007–when a majority of active managers beat the market.”
Every year, of course, there’s some convincing new reason why the “irrational”market once again stumped the managers. It’s the Fed’s policies skewing the macro-economic environment; it’s U.S.consumers deleveraging; it’s the slowdown in China; or–this year’s excuse–it’s the concentration of market returns among just a small number of stocks (10 stocks have accounted for 44% of the S&P 500’s return this year). Stay tuned: next year will bring yet another ingenious explanation for underperformance.
Of course, independent research has repeatedly shown that: a) in any given period of three, five, or ten years, about two-thirds of active equity fund managers have underperformed the benchmark they are trying to beat; and b) their margin of underperformance has been significantly greater than the margin of outperformance achieved by the one-third who succeeded in beating their bogey; but c) picking those who have outperformed in the past in the expectation that they will outperform in the future has proved a consistently losing strategy; and d) you pay a great deal more for the privilege of active management than you pay to invest in the passive index funds that consistently outperform these expensive managers.
To summarize: among active managers there are (and will be) substantially more losers than winners, the losing margin of the losers is greater than the winning margin of the winners, no one knows how to choose tomorrow’s winners in advance, and yet you pay far more to engage in this losing game.
Although more and more investors have wised up and are investing their savings in passive index funds and ETFs, the financial services industry still siphons tens of billions of dollars from investors ever year in commissions and fees for active management. Small wonder, then, that the industry goes to great pains to bury or ignore these irrefutable data that might derail the gravy train.
It’s perfectly legal to sell investors expensive mutual funds that are very likely to generate returns significantly worse than those of low-cost passive options, but I don’t see how this can be construed as ethical and I don’t understand why it’s not condemned by organizations like the CFA Institute whose code of ethics requires CFA charter-holders to put their clients’ interests first.