Checking in on Active Management Performance

Checking in on the SPIVA Scorecard for December 2020

Standard and Poors (S&P) Dow Jones Indexes releases a semi-annual report that measures the performance of actively managed mutual funds and ETF's. This report is useful tool in analyzing the benefits (or lack of benefits) of investing in actively managed funds in pursuit of market beating returns.

As a backdrop, 2020 was a very volatile year in global markets. Despite the rapid downturn in global stock prices in February and March, the recovery of global stock markets led to strong gains in Canada, US, and International markets. The S&P TSX Composite Index finished 2020 with a return of 5.6% annually according to the report. The S&P 500 returned 16.3% in 2020. These returns, minus the management fees paid to their fund provider, were available to any investor who held funds that tracked these indices.

The active fund managers goal is to generate returns that beat the benchmarks that they select on a long-term basis. And this is the only goal that the active fund manager should have, given that there is a readily available alternative to his or her client - to invest in a low-cost index fund.

So, in 2020, how did the average active mutual fund manager do? We check in on the results in the year - end SPIVA scorecard. I have pasted in some charts and key takeaways below.

Key Takeaways

Finding a fund that will persistently match or outperform a simple, low-cost index fund is very hard
- 12% of Canadian actively-managed mutual funds managed to beat the index in the Canadian Equity category
- 78% of Canadian Small and mid-cap managers beat their benchmarks in 2020, but over the last 10 years that number shrinks to 35%
- In the US, only 31% of actively managed funds beat their benchmarks last year, and over the last 10 years that number shrinks to only 5%
- Internationally, 40% of actively managed funds beat their benchmarks last year, and over the past 10 years that number shrinks to only 16%
In the pursuit of market beating returns, you also run the risk of significantly underperforming the market
- When looking at survivorship data in 2020, only 60% of the Canadian equity funds that started the previous 5 year period still existed and only 54% of Canadian equity funds that started the previous 10 year period still existed
- Said differently, the chance that the fund you selected gets shut down is significantly higher than the chance that your fund out-performs
- Given that there is an alternative for clients in the form of indexing, and the stakes being as high as they are (financial security over the long run), it begs the question - why would an investor choose a traditional actively managed fund for their long term investments
Acknowledgements
- index fund investors do not get the index return, they get the return of the index minus fees (this needs to be acknowledged)
- factor strategies that pursue factor premiums (ie. small cap, value, and profitability) will deviate from index fund performance and returns. They are low-cost, but they are not index funds. They are kind of like index fund cousins. While they are low cost, transparent, and systematic, you are still taking some risk that you will not get the returns of the indices that you are tracking
- The purpose of this episode is not to be negative towards active managers. There are some active managers that are likely very skilled and will beat their benchmarks over the long run for their clients. The issues are as follows:
  - The competition that they have to outperform is becoming more and more fierce - this is also known as the paradox of skill
  - Unfortunately, a skilled manager may go through long periods of underperformance, and an unskilled manager can get lucky over short periods of time and still end up underperforming - they are impossible or near impossible to distinguish between

https://www.spglobal.com/spdji/en/documents/spiva/spiva-canada-scorecard-year-end-2020.pdf

https://fs.blog/2012/11/the-paradox-of-skill/