Our Latest Research On Active Versus Passive Asset Management
As you are likely well aware, the debate regarding active versus passive investing has existed for a while. And recently, headlines seem to increasingly indicate that active investing has run its course – most managers are failing to meet their benchmarks.1 We previously released a white paper in 2014 examining the two types of asset management and decided it was time for an update to develop a better overview of where things stand today.
In updating our research, we had three goals:
- Designating particular Morningstar categories as candidates for either active or passive management.
- Introducing time-trend analysis to examine how the proportion of “skilled” and “unskilled” managers in a category changes over time.
- Leveraging a machine-learning model to provide guidance as to what dimensions may indicate the highest probability of future outperformance.
While our findings indicated that "active," "passive," and "neutral" asset class categorizations were consistent with our last report, there were several new takeaways:
- Using time-trend, rolling three-year analyses, we determined that the proportion of
positive and negative alpha managers in a peer group can change significantly over
- While we know nothing can be guaranteed, our research using machine learning found evidence that high expense ratios and performance merely in line with benchmarks may lead to disappointing future performance, while there is a positive correlation with past outperformance.
Most notably, the introduction of our time-trend analysis led to some conflicting results. In reviewing the data spanning nearly 40 years, changes in the number of funds, Morningstar categories, and managers had not significantly changed. This is likely because our current research only added an additional five years of data, which did not greatly affect the averages.
However, over the course of four decades, managers operate under varying market environments, asset management approaches, and technologies. Changes to these variables can produce markedly different proportions of managers generating positive alpha. Using the most recent time period, rather than the average results, indicated that:
- Domestic large cap core, large growth, and mid cap core growth categories have been on a gradual, long-term trend of a decreasing proportion of positive alpha managers.
- Domestic fixed income categories have experienced a significant increase in positive alpha managers over the last decade.
- Immediately following the 2008 Financial Crisis, the domestic value categories experienced a large increase in the proportion of positive alpha managers, which decreased quickly over the next couple of years.
- All foreign large categories experienced a significant increase in the proportion of positive active managers after the 2008 Financial Crisis, which somewhat decreased in the past few years.
Looking at the current failure and success rates, half of the “active,” “passive,” or “neutral” monikers would change. This perspective, combined with other data points, may be useful in making investment decisions.
Investment professionals interested in further details on our research methodology and results can download the full whitepaper, “Active vs. Passive Asset Management: A Revisit and Further Research,” here.
1. Aaron Hodari, "Active vs. passive: The case for both," Investmentnews.com, last modified on January 22, 2019, https://www.investmentnews.com/article/20190122/BLOG09/190129985/active-vs-passive-the-case-for-both.
The information, analysis and opinions expressed herein are for informational purposes only and do not necessarily reflect the views of Envestnet. These views reflect the judgment of the author as of the date of writing and are subject to change at any time without notice. Nothing contained in this piece is intended to constitute legal, tax, accounting, securities, or investment advice, nor an opinion regarding the appropriateness of any investment, nor a solicitation of any type.