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Active Managers: All Bark, No Bite.
May 05, 2017

Active Managers: All Bark, No Bite.

Written By: Kennon Grose

Please give a nod of thanks to Aye M. Soe and Ryan Poirer. These two, both researchers at Standard and Poor’s, have been working tirelessly to produce an important bit of research with monotonous, unchanging results.

I am referring to the little-known SPIVA report.

The SPIVA report for the end of 2016 was recently released for publication. It regularly measures the percentage of managed mutual funds that actually beat their index, including an adjustment for all the funds that have quietly been closed, buried, and taken out of the performance measurements.

That adjustment for what the statistical-types call “survivorship bias” is important. Why? Because hordes of glorious new funds that are heavily promoted sources of investment salvation this year won’t exist three, five, or ten years from now.

The significance of this year’s report is that it is the first one that covers a 15 year retrospective period as well as the 1, 3, 5 and 10 year periods. That’s a long time. It also covers one of the most dramatic periods in stock market (and bond!) history.

While other reports have been nails in the coffin of actively managed funds, this report amounts to a silver spike to the heart of the fee sucking monster of active funds management and marketing.

First, it’s definitive proof that index fund investing is the only way to go. Index fund investing isn’t just investing for “average” results. It’s investing for superior results that would be very difficult to get by choosing an active manager.

FACT: Over the last 15 years, actively managed domestic large cap funds failed to beat their index 92.15 percent of the time; Small cap funds failed 94.64 percent of the time. You won’t see such figures on Morningstar because they don’t adjust for survivorship. But only 34 percent of all large cap funds survived the 15 year period. Only 52 percent of the small cap funds survived.

This makes the odds of selecting a successful active manager very small. The odds get even smaller in the likely event your active manager will disappear.

FACT: DFA rules when it comes to long term investing.

  • DFA US Large Cap Value (DFLVX) returned 8.46 percent in the most recent 15 year period which easily placed in the top performance quartile. More importantly to our clients, the SPIVA 15 year return for the category was 5.84 percent for unweighted and 6.36 for asset-weighted.
  • There is a smaller, but material benefit for DFA US Small Cap Value (DFSVX) and a massive performance benefit for DFA International Small Cap Value (DISVX) as well as DFA Emerging Markets Small Cap (DEMSX). That placed them all in the top performance quartile.

Here’s an example: The 15 year gap between the second and first quartile of funds over the period was only 80 basis points a year. Assuming that you would only gain 80 basis points, between over the top quartile, on average, paying 100 basis points management fee for a 25 percent chance of gaining 80 basis points gives your “manager ticket” an intrinsic value of 20 basis points. You can do better in Las Vegas. Put in a tighter percentage of outperformers, as history suggests, and the intrinsic value becomes minuscule— not a bet worth making.

Bottom line: the AssetBuilder idea has proved out. Index investing, ironically, is the gateway to superior investment results, not “average” investing results. And getting access to DFA funds through AssetBuilder is a superior way to manage assets because you get superior returns while NOT seeking them. Equally important, when so few managed funds survive and beat an index, the value of “smart manager picking” becomes a gamble with a wretchedly poor estimated value.

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This article contains the opinions of the author but not necessarily the opinions of AssetBuilder Inc. The opinion of the author is subject to change without notice. All materials presented are compiled from sources believed to be reliable and current, but accuracy cannot be guaranteed. This article is distributed for educational purposes, and it is not to be construed as an offer, solicitation, recommendation, or endorsement of any particular security, product, or service.

Performance data shown represents past performance. Past performance is no guarantee of future results and current performance may be higher or lower than the performance shown.

AssetBuilder Inc. is an investment advisor registered with the Securities and Exchange Commission. Consider the investment objectives, risks, and expenses carefully before investing.