The proof that active managers can't beat the market

How active managers persistently underdeliver

There’s a good reason savvy investors put their money into index trackers. It’s because active fund managers routinely fail in their mission to beat the market. The evidence comes from the S&P Indices Versus Active Funds (SPIVA) Europe Scorecard. This respected study tracks active funds’ 1-10 year performance against their benchmarks. The scorecard shows that the vast majority of equity active funds fail to outperform after five years. The situation only worsens over ten. The clear trend is that most active managers don’t live up to their hype – and that holds true in good times and bad. Active managers have persistently underdelivered since the SPIVA study began twenty years ago. The latest results were no exception. Over the last ten years, the majority of equity funds denominated in euros failed to beat their market benchmarks:

• 83% failed to beat the European equity benchmark.
• 94% failed to beat the emerging markets equity benchmark.
• 95% failed to beat the US equity benchmark.
• 96% failed to beat the global equity benchmark.

These numbers are truly shocking given that active managers justify their high fees by promising to outperform index trackers including ETFs.

Percentage of European Equity funds outperformed by benchmarks

Nowhere to hide

Active managers can enjoy short-run success in certain markets. For example, 60% of German equity active funds beat their benchmark over one year. But 76% failed to succeed over a full ten years and the record gets worse in other categories. 65% underperformed the Eurozone market over one year. 93% failed over ten. Global and US equity markets are especially tough to beat even in the short-run:

• 82% underperformed the global market over one year.
• 87% underperformed the US market over one year.

Active managers even faltered in relatively inefficient markets where they claim their stock-picking skills give them an advantage. 74% failed to beat the emerging markets index over one year, rising to 94% over ten. A surprising 45% of active managers outperformed UK equity over one year. But their performance deteriorated over time. 62% were beaten by the benchmark on a ten-year time horizon. UK fund managers don’t possess some secret sauce either. 90% of UK domiciled active funds failed to beat the global equities benchmark over 10 years. And 83% of US large cap managers failed to beat the S&P 500 over the last decade. That increases to 90% over 20 years. The worst performance of all? The 100% of active managers who lost to the Dutch index over five years and longer.

Actively managed equity funds outperformed by benchmarks (Euro denominated)

Luck or skill?

Can you identify the small sliver of active managers who will outperform in the future? The evidence is against it. The Europe Persistence Scorecard shows that picking active funds based on past performance is a loser’s game. If you invested in a top quartile global equity fund just four years ago, the chances it could hang on to its top quartile ranking were vanishingly small. Only 4% of actively managed global equity funds managed that feat. Other categories were even more unforgiving:

Chance of top quartile active equity fund remaining in the top quartile (Euro denominated)

Elimination game

Another staggering finding is that 50% of active global funds have been merged or liquidated over the course of the last ten years, according to the SPIVA Europe Scorecard. That casualty rate rises to 58% for Eurozone equity funds and 62% for German equity. Poor performance is the overwhelming cause for closures and mergers of active funds as investors pull their assets from vehicles with weak track records. This leads to survivorship bias – the phenomenon whereby fund houses massage their past performance by wiping out the negative contribution of failed funds. However, investors faced with a choice of thousands of active funds have no way of knowing which products will be eliminated in the years ahead.

Don’t bet your future on luck

The SPIVA Scorecard tips the odds back in favour of ordinary investors by showing just how slim the chances of active management success really are. It’s true that a tiny fraction of active managers will maintain their success over your investing lifetime. But it’s also true that you'd have to be extremely lucky to find those golden needles in the haystack. That’s because past performance does not guarantee future results – as the SPIVA study shows. Your financial future is too important to leave to luck. Our solution: Instead, you can avoid active management failure by choosing a low-cost portfolio of ETFs designed to return their benchmark results as closely as possible.