Active managers failed to outperform during the coronavirus turmoil despite the increase in volatility supposedly making it a ripe environment for stock pickers.
Claims stock picking managers deliver stronger returns during more volatile periods is a common belief among the asset management industry.
As markets become more volatile like we saw during the rapid spread of coronavirus, dislocations between the winners and losers become wider which suits active managers who can use their skills to select the winning stocks.
According to a recent report from S&P Global, dispersion levels between winning and losing stocks rose from 25% in February to 45% between 4 and 17 March, making it the perfect time to deliver outperformance.
However, according to a recent study conducted by SCM Direct, a significant number of active managers did not protect investors as might have been presumed.
The report, named “Old Arguments in a New World: Active or Passive?”, analysed the performance of 627 non-index funds against their benchmarks. The firm compared the primary GBP share class across a broad range of equity sectors, the most vulnerable asset class during volatility.
SCM Direct found the average active equity fund underperformed its index by 2.1% between January and March 2020.
In particular, UK equity income and UK all company funds had an average total return of -28.1% during this period, 2.8% below the performance of the FTSE All-Share index, according to the report.
Additionally, funds with exposure to Japan equity and emerging market equity had a Q1 performance of -14.3% and -20.8%, respectively, 2.7% and 2.5% below the MSCI indices with the same regional exposure.
One region which managed to avoid underperformance was European equity funds. The average performance for active funds with this exposure was -19%, equalling the performance of the MSCI Europe index.
SCM Direct's Alan Miller and Barnaby Barker, authors of the report, said investors are not falling for the misconception active management can outperform as highlighted by the continuing shift to passive vehicles.
According to data from Calastone, actively managed funds suffered negative net flows in February and March as passive funds maintained positive flows. In March alone, active funds experienced £1.7bn outflows whereas index-tracking passive funds saw £1.4bn in net flows.
The report said: “Investors are voting with their feet and ignoring the traditional active fund management spin claiming that active management will protect investors in any downturn.
“Investors seeking to take advantage of low valuations are investing via index funds as they have substantially lower costs and greater diversification.”
However, Edward Glyn, head of global markets at Calastone, argued the growing trend and popularity in passive trends maintained the momentum going into the volatile periods during March.
“The massive divergence between passive and active funds can be partially explained by long-term trends driving the growth of index investing and by the hard anchor of monthly direct debits, but these factors are not enough on their own to account for the huge disparity in March,” Glyn added.
“It seems investors attempting to catch market troughs may simply be focusing on timing and just relying on the index to do the rest.”
Active ETFs
While passive index-tracking strategies are winning the arm wrestle in Europe, in the US, actively managed ETFs are growing in number following the SEC's decision to give the green light on non-transparent ETFs.
Some active ETFs are delivering on the performance. Some 46% of equity ETFs outperformed their passive counterparts year-to-date, double the figure seen three years ago, according to Bloomberg Intelligence.
Active fixed income ETFs have been performing even better as 59% beat passive strategies, up from 50% three years ago.
Active non-transparent ETFs poised to draw assets from mutual funds
Athanasios Psarofagis, ETF analyst at Bloomberg Intelligence, told ETF Stream: “Volatility has bolstered active equity ETFs this year, with 46% topping their passive counterparts - double the three-year rate.
“Among active fixed-income ETFs, 59% are outperforming vs 50% over three years.”
Two ETFs Psarofagis highlights that have attracted a large volume of inflows are the ARK Genomic Revolution ETF (ARKG) and the ARK Innovation ETF (ARKK).
ARKG and ARKK have a YTD performance of 21.4% and 10.6%, respectively, as of 30 April. It’s difficult to match a benchmark with ARKG which includes multiple sectors across healthcare, IT, materials and energy, according to ETF.com.
However, ARKK seeks to include companies within the theme of disruptive innovation and ETF.com has allocated the MSCI ACWI +Frontier Markets IMI index as a benchmark. The index had a YTD performance of -13.8% meaning ARKK outperformed it by 24.8%.
Psarofagis added: “ARKK's success could inspire more active managers to introduce ETFs that take a more high-conviction approach, betting heavily on individual stock picks to stand out from the crowd.”
As a result, Bloomberg Intelligence believes it is likely that more active ETFs will launch in the US this year in an attempt to catch a potential market rebound.
ETF Insight is a series brought to you by ETF Stream. Each week, we shine a light on the key issues from across the ETF industry, analysing and interpreting the latest trends in the space. For last week’s insight, click here.
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