While 19% seems like an outlandish return, recent research1 found that if you bought the 10 stocks most underweight by actively managed funds and sold the 10 stocks which were most overweight, you would have earned annualized returns of near 19% since 2008! While we don’t think that return is likely to occur again or that it’s a viable investment strategy, we do think the study helps illustrate the point that picking individual stocks is difficult.
Earlier this year we wrote about the statistics showing the struggle of active managers to keep up with their respective indexes. This research has been making the case against active management for many years now. While significantly more assets are still held in actively managed vehicles, the tide is beginning to shift, as you can see below, with net flows totaling a gain of $1,563 billion into passive over the last three years, while $650 billion flowed out of active.
Source: Morningstar Direct. Net Flows over last 36 months to May 2017 for all US OE Mutual Funds and ETFs ex MM ex FoF, including obsolete Funds
In our quarterly video — Making Sense of Markets Headlines — we dive a bit deeper into the differences between active and passive managers, and show the rationale behind the idea that, in the aggregate, active managers are going to look like the entire market. If you pay a high cost for market exposure, you’re likely to underperform an index, on average. As an advisor, or an investor, these are important considerations to keep in mind when trying to plan for your long-term financial goals.
Watch our quarterly Making Sense of Markets videos for more information:
1 Kopin Tan, “Man vs. Machine – How Has Indexing Changed the Market?” Barron’s, July 8, 2017.