Active managers say volatile markets demand their skill, but data suggests otherwise

As global share markets drop and volatility jumps, active managers are promising better stewardship and performance relative to passive peers. The data is not in their favour.

Just under half (47%) of actively managed Australian funds outperformed their benchmarks in the first four months of this year, according to new analysis from industry giant Vanguard.

Following the pandemic and the Global Financial Crisis, a majority of Australian active managers similarly underperformed, according to data from S&P SPIVA, an industry scorecard keeper.

Few actively managed funds have ever shown they are able to reliably deliver for investors in volatile markets —whether it was through the bursting of the technology bubble, the global financial crisis or the COVID crisis and an historic bout of inflation, says Ben Johnson, director of global exchange-traded fund research at Morningstar.

“I’d suggest investors take these arguments with a grain of salt. The best approach, irrespective of the market environment, is often to stick to your plan. I can count with no hands the number of investors who made it big by getting market timing calls right more than once,” says Johnson.

Decades of research has challenged the active funds management industry with evidence of serial underperformance versus rapidly growing passive competitors. Over a fifteen-year period, just 16% of Australian equity funds outperformed benchmarks. During last year’s bull market, 55% of nearly 4,000 US active funds underperformed the average passive peer, up from 51% in 2020, according to Morningstar research.

“Active funds’ short-term success rates are noisy. Their volatility can be influenced by countless factors. Over longer time horizons, there is less noise and the signal regarding active funds’ odds of succeeding is clearer,” says Johnson.

High-flying fund managers, including Magellan's Hamish Douglass have been humbled by market gyrations. After years outpacing the benchmark, the flagship Magellan Global Active (MGOC) now trails over a ten year horizon following missteps during the pandemic bull run. 

There remains a role for both active and passive strategies, according to Vanguard’s active and ESG sales development manager Ian Boater, who stresses the importance of cost when comparing strategies.

“It does not have to be an either-or choice. A low cost, broadly diversified active fund that outperforms the index consistently could be a better alternative than a high-cost index fund. Ultimately, an investor should view active and index strategies as components of an overall investment strategy and not look at either in isolation,” says Boater.

Famed for spearheading the passive investing revolution, Vanguard remains a major active manager with over US$1.5 trillion under management.

Wakefield Partners senior financial planner Scott Keeley says while there is ‘absolutely’ a greater need for active management in difficult markets, passive investments have their role too.

“Isn’t this where active fund managers should be making their money? Of course, market movements are beyond the control of fund managers, but I always think that if active fund managers can’t add value during volatile times, then a key component of why they exist is missing.

“High quality active fund managers should provide benefits in volatile and uncertain markets. There is still merit though to using a core/satellite approach and using both passive and active ETFs in each asset class,” says Keeley.

Australian active managers underperform in major crises

Active managers spotty record of outperformance during intense volatility extends to the two major market crises of the past 15 years, according to data from S&P SPIVA, which tracks active managers against relevant benchmarks.

A majority of active funds in all categories suffered worse drawdowns versus their respective benchmark indices in the first half of 2020, when the COVID-19 pandemic started, according to Priscilla Luk, managing director and head of Asia Pacific Global Research & Design at S&P Dow Jones Indices. A-REIT funds were the lone exception.

“All fund categories recorded smaller average returns than their respective benchmark indices in the first half of 2020 on both equal- and asset-weighted bases,” says Luk.

Active managers were similarly wrongfooted by the Global Financial Crisis. Most Australian equity fund categories did not beat their respective benchmarks during the initial equity market sell-off in the second half of 2008. Some began to outperform in the months subsequently.

“When equity market’s recovered, outperformance was seen in Australian mid/small-cap funds but not in the rest of the equity fund categories,” says Luk.