When should advisors consider investing their client monies in actively managed funds rather than cheaper passive index funds or ETFs, which tend to be the better performers over time?

(Related: Not All Active Managers Are Poor Performers)

It’s a key question for any advisor who doesn’t want to invest exclusively in passive funds, and two recently released reports can potentially help them make that decion — one focusing on U.S. stock equity funds and the other on international stock funds.

Actively Managed U.S. Equity Funds

Scott Opsal, director of equities at Leuthold Weeden Capital Management, writes in a recent report that actively managed large-cap blend funds — defined by Morningstar as funds that combine growth and value but aren’t dominated by either — have a much greater chance of outperforming over the long term when average market returns are low or negative.

(Related: How to Use Active Share to Find High-Performing Mutual Funds)

For example, three-year rolling returns from December 1975 through June 2017 show that more than 60% of actively managed blend funds beat their index counterparts when average annual market returns were 5.6% and 68% outperformed when returns were negative, but less than 40% outperformed when average market returns were 20%. 

(Related: Passive Investing May Be Nearing ‘Dangerous’ Levels: Portfolio Manager)

“Active fund outperformance is unmistakably linked to market outcomes,” writes Opsal.

He also found that actively managed fund performance tends to rise when stock valuations are falling, and to fall when valuations are rising, which doesn’t bode well for the current market.

Opsal explains that active managers are “valuation aware,” so they tend to hold off buying when stock prices are rising to higher and higher levels, which passive index funds cannot do because they move with the maket. As a result, active managers usually don’t perform as well as market indexes. But when prices are falling to levels considered good buying opportunities active managers can buy stocks selectively, while index funds will depreciate along with the market.

Valuations are currently high despite the recent mild retreat. They’ve risen almost steadily since the 2009 market bottom to about 24x on a 12-month trailing basis, “a level and trend that is distinctly unfavorable for active managers,” writes Opsal.

Despite valuations, advisors from independent broker-dealers, wirehouses and RIAs invested $51 billion of net new assets into actively managed funds in the first half of this year, favoring the less expensive institutional shares, according to Broadridge Financial Solutions. In addition, self-directed retail investors deposited $36 billion of net new assets into actively managed funds vs. $31 billion into passive index funds, according to Broadridge.

(Related: Low Fees Drive Flows Into Active Funds: Broadridge)

Whether a fund outperforms or not is also a function of the index against which its performance is measured. Opsal found that the choice of a mainstream large-cap index can impact an active fund’s “win rate” by almost 15% on average and sometimes by more than 39%.

“Investors need to be aware of the potential for the statistics to mislead,” writes Opsal.

Actively Managed International Funds

While actively managed U.S. stock funds often underperform benchmark indexes that’s less common among international equity funds, says David Lubchenco, a partner and portfolio manager at Chautauqua Capital Management, a division of Baird.

“Investors have not generally been rewarded for indexing their international holdings,” writes David Lubchenco, who helps manage the firm’s International Growth and Global Growth funds.

Lubchenco says 74% of foreign large blend funds outperformed the All Country World Index excluding the U.S. (ACWX), and 65% did so over three years. (The ACWX index dates back to 2009, so 10-year data is not available).

Actively managed international equity funds have a greater chance of outperforming if correlation among stock performance is low and the dispersion of returns is high, which indicates that not all stocks are rising in lockstep with each other, says Lubchenco.

He explains that actively managed international and global funds have better odds of outperforming U.S. actively managed funds currently because monetary policies overseas are now more accommodative than central bank policy in the U.S., 95% of the world’s population resides outside the U.S., and 75% of the world’s economic activity occurs in emerging and developing countries outside the U.S.

“Given elevated growth rates in these non-U.S. countries, active managers simply have more opportunity to find strong, high-quality growth investments,” writes Lubchenco. “Successful active management should matter more today than at any other time.”

But the stock picking prowess of portfolio managers is key.

The Chautauqua International Growth Fund (CCWSX) and Chautauqua Global Growth Fund (CCGSX) are both concentrated funds with 30 and 40 stocks, respectively, representing the managers’ best ideas for the long term to reduce volatility and generate returns. The goal is to provide 300 basis points (3%) of outperformance over a cycle of three to five years.

The portfolios are diversified by sector and “populated with companies whose products are so highly valued or mission-critical to customers that they’re resilient to economic forces that would be disruptive to most companies,” according to the funds’ Q2 commentary. The impact of currencies and the geographic sources of revenues rather than the location of headquarters are also key considerations, says Lubchenco.

No Either/Or

Advisors don’t have to choose between active and passive funds. “Don’t lock in to all passive or active,” says Opsal. “They’ll each have their own chance to shine.” His advice: “Find your favorite active funds, your favorite passive funds, and built your portfolio with both.”