No April Fooling: Active Management Offers Poor Predictability and Persistence

It is tempting to make the April edition of Fun Facts our April Fools’ joke, but we know our clients are far too smart to succumb to any “fake news.” Nonetheless, we will try to keep it fun! On good days, we like to think that all of our clients go to bed at night reciting the Four Core Principles of Berno Financial Management’s Investment Philosophy:

  1. Total Portfolio Approach
  2. Broadly Diversified Portfolio
  3. Risk and Return Are Related (the 3 R’s)
  4. Minimize Fund Fees, Expenses, and Income Taxes

We are toying with the idea of adding a fifth principle: Manage Predictability and Persistence. (Shall we call it “the 2 P’s”?)

Here is where it gets a little heavy:

  • Traditional active management has very poor predictability and persistence.
  • Passive asset class management has very high predictability and persistence.

According to two separate, long-term studies by Standard & Poor’s titled the SPIVA (Standard & Poor’s Index vs. Active) Scorecard and the Persistence Scorecard, the majority of active managers underperform their respective stock market index, and of those that do outperform, very few outperform consistently in the future.

[Tweet "The risk–reward ratio of trying to pick actively managed funds in advance is not justifiable. "]

Specifically, over five-year time periods:

  • 91% of large-cap,
  • 87% of mid-cap, and
  • 58% of small-cap managers lagged their respective benchmarks.

Furthermore, of the funds that were in the top 25%, only 1% of large-cap funds and 0% of mid-cap and small-cap funds remained in the top 25% at the end of the next five-year measurement period.

Conclusion: The risk–reward ratio of trying to pick successful actively managed funds in advance is not justifiable.

Passive asset class management is both predictable and persistent. No fooling!

As always, please contact us with any questions, news, or comments.