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Portfolio > Mutual Funds > Bond Funds

Active Funds’ Ability to Beat Passive in Downturns ‘Is a Myth’: Morningstar

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Just 43% of active funds topped their category benchmark index year to date, Morningstar finds. 

“And when you look specifically at how active funds both stock-pickers as well as bond 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,” according to Ben Johnson, director of global exchange-traded fund research for Morningstar.

Comparing the results of all active U.S. stock funds against their Morningstar category indexes from the market’s peak 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,” Johnson said in a video posted on the research group’s website earlier this week.

As for fixed income, about a third of active bond funds outperformed their category indexes during this tough stretch. 

“This 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,” Johnson explained.

The concept that active managers can consistently outperform passive funds in environments like the market crash of earlier this year “belongs in the same category as Santa Claus and the Easter Bunny,” he added. “It’s a myth, it’s one that perpetuates itself.”

The myth lives on, according to Johnson, since “people want to believe [in the ability of others], and we want people to ultimately behave well. Because what matters more than anything is the longer-term picture and not just any one air pocket that we might hit in the market.”

By the Numbers

Chart on active funds first half 2020 performance from Morningstar Source: Morningstar, 7/1/2020.

Looking at how active funds did in the first quarter, their success rate at beating their respective benchmarks stood at close to 44%. In the second quarter, it rose to roughly 54%, Jeffrey Ptak, head of global manager research for Morningstar, said on Twitter Wednesday.

“But because funds beating in 2Q did so by a lesser margin than they lagged in 1Q, it didn’t lift YTD success rates very much. Too big a hole,” Ptak tweeted.

By asset category, the number of active funds beating their benchmarks in the first six months of 2020 were:

  • Allocation/target date, 52.0%; (51.6% in Q1, 57.2% in Q2
  • Equity, 48.3% (47.6% in Q1, 52.3% in Q2)
  • Fixed income, 26.0% (25.1% in Q1, 59.4% in Q2)
  • Other, 49.6% (73.1% in Q1; 29.6% in Q2). 

Overall, active bond funds rebounded in the second period of the year, according to Ptak, and beat their benchmarks by 1.04%, on average. 

Active taxable bond funds led the category in the second quarter, followed by international equity: 881 of 959 active taxable bond funds, or 92%, that beat their benchmarks in the second quarter had lagged it in the first, he says.

International equity funds did a better job at topping their benchmarks than U.S. equity funds, according to the researcher. 

While we saw a lot of active taxable bond funds beat their index in 2Q after lagging in 1Q, they lagged by a greater margin in 1Q than they beat by in 2Q. Contrast that w/ int’l equity, where average active lagged by 3.38% in 1Q but beat by 3.87% in 2Q,” Ptak tweeted. 

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