Swedroe: Poor Active Performance Persists

The midyear 2015 Standard & Poor’s Indices Versus Active (SPIVA) persistence scorecard for U.S. equity markets provides yet another example of why—at least when it comes to the overall results of active management relative to their appropriate benchmarks—the past can, in fact, be considered prologue.

Here are some of the highlights from the report:

• Of the 682 domestic equity funds in the market’s top quartile as of March 2013, only 5.3 percent had managed to remain there come the end of March 2015. Furthermore, a mere 4.0 percent of large-cap funds, 5.3 percent of midcap funds and 4.7 percent of small-cap funds were able to stay in the top quartile, each of which is less than the randomly expected 6.25 percent.
• For the three-year period ended March 2015, 16.6 percent of large-cap funds, 17.4 percent of midcap funds and 22.7 percent of small-cap funds maintained their position within the top half of funds, each of which is less than the randomly expected 25 percent.
• For the five-year period ended March 2015, only 4.8 percent of large-cap funds and 3.5 percent of midcap funds maintained their top-half performance over five-consecutive 12-month periods. Both figures are below the 6.25 percent that is randomly expected. However, 7.8 percent of small-cap funds maintained top-half performance over five-consecutive 12-month periods, slightly above the randomly expected level.
• There is a stronger likelihood for the best-performing funds to become the worst-performing funds than vice versa. In the five-year period ended March 2015, 15.9 percent of bottom-quartile funds moved into the top quartile, while 21.8 percent of top-quartile funds moved into the bottom quartile. However, fourth-quartile funds had a much higher rate of being merged or liquidated. By the end of the five-year period, 33.3 percent of large-cap funds, 38.7 percent of midcap funds and 38.4 percent of small-cap funds in the fourth quartile had disappeared.
• Not a single large-cap, midcap or small-cap fund in the top quartile at the beginning of the five-year measurement period remained there at the end of it. According to the report, “this figure paints a negative picture regarding the lack of long-term persistence in mutual fund returns.”

Not Including Tax

While this data is compelling evidence on the failure of the active management industry to generate alpha, it’s important to note that all of the above figures are based on pretax returns. Because the higher turnover of actively managed funds generally makes them less tax efficient, on an after-tax basis, the failure rates would likely be much greater (taxes are often the highest expense for actively managed funds).

The report’s findings on persistence in performance were similar for bond funds. Over the five-year period ended March 2015, the data showed a lack of persistence among nearly all top-quartile fixed-income categories. Funds that invested in short-term investment-grade bonds were the only group in which a noticeable level of persistence was observed.

The only problem with the SPIVA scorecards is that there’s no longer any suspense in reading them. As Yogi Berra famously said, “It’s deja vu all over again.”

Larry Swedroe is the director of research for The BAM Alliance, a community of more than 140 independent registered investment advisors throughout the country.