Less than a third (29.1%) of active funds beat their passive counterparts last year, according to a new report from Morningstar.
This was a slight increase from the 28.7% of outperformers the year before, but the long-term case for active funds was even more grim. Just 14.2% of active managers beat passive strategies over the past 10 years.
However, active management delivered more value in asset classes such as fixed income, with 26% of bond funds outperforming passives over the past 10 years.
An active approach was more effective amid the volatility of last year, with over half (53.5%) of active bond funds outperforming passives.
This was a slight decline from 58.3% the previous year as “managers were unable to adapt to quickly changing conditions”, according to Jose Garcia-Zarate, senior principal of manager research at Morningstar.
He added that while the long-term averages for active funds are “disappointingly low”, there are areas of the market where the approach pays off.
“The debate between active and passive funds continues to evolve and the overall trend toward passive investing remains strong,” Garcia-Zarate said.
“However, active managers have the potential to provide value in volatile or inefficient markets, which could drive investors to seek strategies designed to outperform benchmarks, particularly in sectors or regions showing signs of heightened risk.”
‘Increasingly difficult to justify higher fees’
Nevertheless, there are other parts of the market where active funds rarely outperform passive strategies, namely those investing in large-cap equities.
Only 3.5% of active managers buying US large-caps, for example, beat their passive counterparts over the past 10 years.
Garcia-Zarate said: “In categories that are highly competitive and dominated by large, low-cost passive funds—such as large-cap blend equity—the long-term success rate of active funds, which was already low, has declined even further.
“This reinforces the long-held view that in these segments, where investors have access to well-diversified, low-cost passive options, it is especially challenging for active strategies to consistently outperform their passive composites.
“The presence of these large and inexpensive passive funds sets a high performance threshold for active managers, making it increasingly difficult for them to justify their higher fees.”
However, large-cap equity fund managers stood a better chance of outperforming if they invested in value stocks.
Large-cap US growth funds had a success rate of 36.1% last year, while large-cap US value managers were significantly ahead at 69.4%. Only 10.3% of US large-cap value managers outperformed over the past decade, but it is above the average US manager.
A blended future
The overwhelming take away from Morningstar’s latest report is that passives often outperform active funds, and for a much lower price.
While active managers can provide more value in certain asset classes and styles, their higher fees may still act as a deterrent for some investors.
Garcia-Zarate said that this paves the way for vehicles such as active ETFs, which offer the best of both worlds.
“As active managers continue to battle high operational and regulatory costs alongside pressure to lower fees, the rise in active ETFs will continue to be a growing theme,” he added. “In Europe, we’re seeing an increasing number of traditional managers jumping on the trend.”
This story was written by our sister title, Portfolio Adviser
