No one has a clear crystal ball allowing them to accurately forecast the future. So, it's a good thing that predicting the results of Standard & Poor's twice-yearly active-versus-passive scorecard doesn't seem to require one.
It's a pretty safe bet that the results in each new scorecard -- officially called the S&P Indices Versus Active Fund report, or SPIVA -- will be extremely similar to the findings of the reports that came before it. The recently released midyear 2014 SPIVA scorecard is no exception.
It again provides a thorough look at why the past is, in fact, prologue -- at least when it comes to the overall results of active managers relative to their appropriate benchmarks.
The newest SPIVA report is yet another piece of evidence showing that investors cannot use past performance to identify which small minority of actively managed funds will outperform in the future.
- For the 12-month period ending June 30, 2014, 60 percent of large-cap mutual fund managers, 58 percent of mid-cap mutual fund managers and 73 percent of small-cap mutual fund managers underperformed their benchmarks.
- As we lengthen the time horizon, underperformance strongly tends to increase. While 60 percent of large-cap active managers underperformed over the prior 12 months, 85 percent underperformed over the prior 36 months and 87 percent did so over the prior 60 months. For mid-cap funds, 58 percent, 77 percent and 88 percent of active managers underperformed over the 12-month, 36-month and 60-month periods, respectively. For small-cap funds, 73 percent, 92 percent and 88 percent of active managers underperformed over the 12-month, 36-month and 60 month periods, respectively. For multi-cap funds, 60 percent, 86 percent and 82 percent of active managers underperformed over the same three time periods. And in the real estate investment trust (REIT) category, just 42 percent underperformed over the prior 12 months, while 91 percent did so over the prior 36 months and 92 percent did so over the prior 60 months.
- Over the prior 60 months, just 52 percent of the active funds maintained style consistency. Even 12 percent of the REIT funds weren't consistent in style -- a pretty amazing finding. This issue is critical because style is the major determinant of the risk and returns of a portfolio or fund. If active managers persistently outperformed, we wouldn't worry so much about style consistency. But we know this isn't the case, so style consistency should be a concern.
- Over the past 12 months, approximately 70 percent of global equity funds, 75 percent of international equity funds, 81 percent of international small-cap funds and 65 percent of emerging-market funds underperformed their benchmarks. This record should once again dispel the myth about active managers outperforming in inefficient markets, such as emerging markets.
- Again looking at the data from longer periods, over the past 60 months, 74 percent of global active funds underperformed, 70 percent of international funds underperformed and 68 percent of emerging-market funds underperformed. The only category where the majority of active managers outperformed was international small-cap stocks, where just 46 percent underperformed.
- Funds continue to disappear at an alarming rate. Over the past five years, nearly 25 percent of domestic equity funds, 24 percent of global or international equity funds and 17 percent of fixed-income funds have been merged or liquidated. This underscores the importance of making sure any analysis of mutual fund data accounts for survivorship bias. The SPIVA scorecards do so.
While all these findings are pretty compelling evidence of the active management industry's failure to generate alpha (defined as outperformance relative to an appropriate benchmark), it's important to note that all of the figures cited are based on pretax returns. Given that the higher turnover of actively managed funds generally makes them less tax-efficient, on an aftertax basis the failure rates would likely be much higher because taxes are the largest expense for actively managed funds.
Reading each successive and topically identical SPIVA report brings to mind a saying attributed to Yogi Berra: It's déjà vu all over again.