You don’t need a PhD in psychology to know that people will believe they want to believe. Look at any divisive issue — Trump, Brexit, compulsory vaccination, the existence of God etc. — and people on both sides will reject information that runs counter to their beliefs.
Active money management is no different. It doesn’t matter how many reports come out of Morningstar, SPIVA and universities around the world showing that very few active managers consistently outperform in the long term; there are some people who just won’t change their minds.
Morningstar’s global director of ETF research Ben Johnson makes this point in a recent video.
He says: “This concept that active managers will reliably outperform in environments like we experienced earlier this year belongs in the same category as Santa Claus and the Easter Bunny.
“It’s a myth, it’s one that perpetuates itself… because people want to believe.”
The video is ten minutes long and worth watching. Here are the six main points that Ben makes.
Active equity funds had a bad crisis
“When you look specifically at how active funds performed during the very worst of the episode that we experienced in the first quarter, what you saw is that, despite many claims to the contrary, they didn’t necessarily save investors’ bacon.
“So, I looked specifically at all active US stock funds and how they performed relative to their Morningstar Category index. And from the peak of the market in February to the depths of the drawdown in late March, what you saw is roughly half of them managed to outperform their category index during that period.”
Active bond funds fared worse
“What you saw (in fixed income) is roughly a third of bond portfolio managers outperformed their category index during that same stretch, which speaks to the fact that many of them were structurally a longer credit risk and also shorter duration during the period where credit risk got absolutely punished and interest rates dropped.”
People want to believe
“I think this concept that active managers will reliably outperform in environments like we experienced earlier this year belongs in the same category as Santa Claus and the Easter Bunny. It’s a myth, it’s one that perpetuates itself. It’s one that I think perpetuates itself because people want to believe.”
Thematic funds are everywhere…
“We’ve seen a number of thematic launches that have tried to capitalise on this current moment, the most recent of which trades under the ticker WFH, short for working from home.
“The other two are looking to capitalise on the trends that might get us out of this (crisis), investing in those healthcare companies that are… trying to find some sort of a resolution, some way out, be it a vaccine or something else to help us to fight against this virus. The ticker of those two funds, cute as ever for thematic funds, are GERM, G-E-R-M, and most recently VIRS, V-I-R-S.”
… but are best avoided
“What I would say about these funds is the same thing I would say about any thematic fund… Investors need to understand that these are often designed more with scalability in mind than they are with long-term investment merit.
“They tend to be launched at the precise moment where everyone’s bought into this theme. Valuations tend to be very rich, and as a result investors might be set up for disappointment if they are in some way distracted to and ultimately latch onto one of these shiny new additions to the ever multiplying menu of thematic funds.”
Most investors want vanilla
“As much as it’s fun to talk about cute funds based on cute concepts with cute tickers to match, really investors are sticking to their knitting. They’re looking at mainline broad-based diversified funds, funds that we think highly of that allow them ready access to the exposures that investors need at the core of their portfolios, that support low fees if they’re charging them anything at all.”
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Picture: Mike Arney via Unsplash