The latest SPIVA scorecard is pretty depressing news for active managers.
One of my favorite scenes in any movie ever is when Navin Johnson, the lead character from Steve Martin’s unheralded classic ,“The Jerk,” jumps up and down with excitement, declaring, “The new phonebooks are here! The new phonebooks are here!”
I’ve been accused of acting the same way twice a year when S&P Dow Jones Indices releases the S&P Index Versus Active report, shorthanded with the somewhat unfortunately moist acronym “SPIVA.”
As far as I know, SPIVA is the longest-standing most rigorous survey of investment management performance. It does significant things to make sure it’s fair, like survivorship bias correction, measuring style consistency and cleaning out all of the garbage data (and believe me, if you do any work with large financial data sets, they’re always full of junk).
The end result is a semiannual snapshot of how active mutual fund managers are doing versus common benchmarks like the S&P 500 and the Barclays Aggregate. Having read the thing for years, here’s what I generally expect: In most categories, maybe 55 to 60 percent of active managers underperform. In one or two categories, active managers reverse that and have more than the coin flip in their favor.
This time, the numbers are really pretty depressing for fans of active management. Here are my favorite highlights from the first six months of the year, but you can grab the full report at the SPIVA website:
This line pretty much sums it up:
Measuring 2,804 equity mutual funds chasing U.S. stocks, 60 percent of them failed to beat a simple benchmark. Over the three-year period, 85 percent failed to beat a simple benchmark.
Remember, this is raw performance, not even adjusted for risk. Think about that for a minute.
If I know one thing about analyzing performance returns, it’s that, in general, most active managers take more risk than a neutral benchmark. It’s extraordinarily rare that I’ve ever run a series on an active equity fund and found that it’s got a lower beta than the appropriate benchmark—meaning that not only did most funds fail to do what they were promising, they likely took more risk in doing it. They certainly charged more than the handful of basis points the largest U.S. equity ETFs took.
The data actually gets worse. S&P, trying to be as fair as possible, also looks at a ton of individual segments within U.S. equity. So surely there must be some place where stock picking worked last year, right? I mean, aren’t we always told that the value of analysts is finding, say, small, unknown companies before the next guy?
Nope. In fact, active management worked worse in small-cap than anywhere else in equities. As shown above, 91 percent of the 213 small-cap growth managers over the past five failed to beat the S&P SmallCap 600 Growth Index. How these people keep their jobs is a mystery to me.
As for investors, it’s as if they’ve never heard of the Vanguard Small-Cap Growth ETF (VBK | A-88), which, at 9 basis points, is about as thrifty as you can get, and which, if you’re keeping score, has beaten the S&P SmallCap 600 Growth Index by a smidge over the last year.
And lest you think this is splitting hairs, consider the asset-weighted performance of mutual fund investors in U.S. equities:
Over the last five years, chasing the dream has cost you over a percent a year. I don’t know about you, but I don’t need that kind of anxiety in my life.
The report’s just as dismal when it comes to most international equity, although, there, at least one category gets back to coin flip probabilities:
Here we can at least see a glimmer of hope. Indeed, over the last three- and five-year periods, slightly more than half of international small-cap managers have managed to beat the naive benchmark. That’s awesome, right? Active management lives! Not so fast. How did those investors actually do?
Over five years, the average dollar returned 40 bps over the naive index. But look at the last year. In a fantastic bull market, the average investor trailed the index by more than 5 percent! You better be in it for the long haul to stomach a year like that.
Putting the snark aside for a moment, fixed income is one of the places I actually waver in my general disdain for active management. It’s not that I think all bond managers are geniuses. Rather, I genuinely don’t like how most bond indexes are constructed.
Weighting by issuance, particularly in corporate bonds, has always struck me as a dumb way to go about investing. After all, if someone keeps asking me for money, I actually want to loan them less over time, not more. But bond indexes load up on the most indebted, and that’s troubling.
And in fact, SPIVA often shows that bond managers get it right more often than not in certain places. Just not necessarily where you expect. Consider corporates:
What this suggests is that active management really isn’t adding any value on long bonds in the corporate space, but has been highly successful when it comes to intermediate and short-term funds.
My only caution there is the choice of index. S&P uses the Lipper classification for mutual funds. Lipper’s “investment-grade” category is exclusively corporate issuers. Any fund that mixes Treasurys and corporates goes into a “multi-sector bond” bucket that SPIVA doesn’t include in its analysis.
The benchmarks SPIVA uses here, however, generally hold more than 50 percent U.S. Treasurys. Am I surprised that the Pimco Investment Grade Bond Fund (PIGIX) beat an index that’s half Treasurys? Not when we’ve been in a nearly default-free bond market, I’m not!
In other words, this “win” for active management is actually just the flaw in the SPIVA methodology.
And the junk bond managers? Things definitely look bad there.
Is All Hope Lost?
I admit, as an academic finance wonk, it’s hard not to look at SPIVA and crow. But the reality is active management isn’t going anywhere. After all, even in junk bonds, 15 percent of the active managers are beating the market. If you’re one of the folks who picked that active manager, then you’re reading this blog and laughing.
And that’s the problem: In every single SPIVA category, at least some active managers are beating their bogeys. In some cases, I’m sure they’re doing it consistently. After all, if I get 32 people in a room flipping coins, at the end of five flips, one person probably got heads five times in a row.
But try and tell that person who spent an entire career developing a complex coin-flipping business, with a bank of analysts, a Bloomberg terminal and a close personal relationship with the coin, that it was just luck. It’s just human nature. We all want to live in Lake Wobegon, where all the children are above average.
And that desire will keep investors and their managers going back to it, year after year. And soon enough, we’ll see them charting their course in ETFs more often than not. Net-net, that’ll be a good thing for those investors: Their managers may still underperform, but at least they’ll likely pay a bit less, and have fewer tax surprises.
But for me? SPIVA once again just shows me that it’s hard to beat the math. Check out the full report.
At the time the article was written, the author held no positions in the security mentioned. You can reach Dave Nadig at [email protected], or on Twitter @DaveNadig.