Tempted to Look for the Next “hot thing” in the Market?

Who’s the smartest of them all? We currently see ads and junk mail pieces from money managers saying they are the greatest because they sold out before the crash or bought (emerging markets, junk bonds etc.) just at the right time. Truth be told, facts are facts and though there are some really smart money managers out there, most are really smart at marketing, not investing money.

As a long-time advocate of passive rather than active management investment strategies we find it helpful to share with potential investors looking for the “next hot thing” how active mutual fund managers have actually performed in recent years. It is no surprise to us that actively managed stock and bond funds have shown a significant rate of non-survival over the past five years (though private equity and hedge funds have melted even faster than these mutual fund managers). Among the survivors, only a few have consistently outperformed their category benchmark. Note: to fully view presenter comments right click on the orange box and “open pop-up”.

Slide 1: During the past five years, the US stock market has experienced several years of moderate gains and one year of extreme underperformance (2008). As shown in this graph, 28.5% of the actively managed US equity universe (1,043 funds) disappeared during the five-year period through 2008. Most of this non-survival occurred in years when the market delivered positive returns.

Slide 2: Although 71% of actively managed US equity funds survived the five-year period, most funds did not outperform their category benchmark. This graph shows the percentage of funds in the surviving universe that beat their benchmark in consecutive years. In the first year (2004), 33.2% of the funds were winners, but by year five (2008), only 1.4% of the funds (38 out of 2,619 survivors) had consistently outperformed their benchmark.

Slide 3: Like active managers in the equity universe, bond fund managers have a significant rate of non-survival and underperformance as well. As shown in this graph, of the funds operating at the beginning of 2004, about 27% of the actively managed bond universe (458 funds) disappeared during the five-year period through 2008.

Slide 4: Fund survival again does not imply success. Although 73% of actively managed funds survived the 2004-2008 period, most did not outperform their fund category benchmark. This graph shows the percentage of bond funds in the surviving universe that beat their benchmark in consecutive years. In 2004, over 41% of the funds outperformed their respective category benchmark. By year five (2008), however, only 0.5% of the funds (7 out of the initial 1,670) had outperformed in all five years.