How often do actively managed funds outperform passive funds?
Here's what the firm found from 20 years of research: Active vs. Passive: The active success rate for equity was 76% overall with actively managed funds surpassing passive funds 73% of the time.
Over a third of active funds outperformed their passive counterparts in 2023, an uptick of nine percentage points from last year's 27%, according to AJ Bell's 'Manager versus Machine' report.
Because active investing is generally more expensive (you need to pay research analysts and portfolio managers, as well as additional costs due to more frequent trading), many active managers fail to beat the index after accounting for expenses—consequently, passive investing has often outperformed active because of ...
Index funds seek market-average returns, while active mutual funds try to outperform the market. Active mutual funds typically have higher fees than index funds. Index fund performance is relatively predictable; active mutual fund performance tends to be less so.
Passive management generally works best for easily traded, well-known holdings like stocks in large U.S. corporations, says Smetters, because so much is known about those firms that active managers are unlikely to gain any special insight. “You should almost never pay for active management for those things.”
Although it is very difficult, the market can be beaten. Every year, some managers boast better numbers than the market indices. A small fraction even manages to do so over a longer period. Over the horizon of the last 20 years, less than 10% of U.S. actively managed funds have beaten the market.
Passive investing tends to perform better
Despite the fact that they put a lot of effort into it, the vast majority of of active fund managers underperform the market benchmark they're trying to beat. Even when actively managed funds do experience a period of outperformance, it doesn't tend to last long.
However, there are instances where skilled active managers can consistently beat the market. Passive funds tend to have lower expense ratios compared to actively managed funds. This is because they require less research, trading, and management, resulting in lower costs.
Most years, actively managed mutual funds underperform the benchmark S&P 500. Often, active managers are constrained by investment policies of the fund in question. Individual investors aren't constrained by such restrictions.
Simply said, active managers try to achieve better returns, through the specific investments they select, than their mandated benchmarks. They can also make active asset allocation decisions using a mix of equities, bonds, and other asset classes.
Which funds consistently beat the S&P 500?
| Fund | 2023 performance (%) | 5yr performance (%) |
|---|---|---|
| T. Rowe Price US Blue Chip Equity | 49.54 | 81.57 |
| MS INVF US Growth | 49.29 | 62.08 |
| New Capital US Growth | 48.68 | N/A |
| T. Rowe Price US Large Cap Growth Equity Fund | 48.64 | 98.92 |
Actively Managed Funds Come to Life
But active funds fared well even in the hottest corners of the market. See the full analysis in Morningstar's latest Active/Passive Barometer. Nearly 57% of active U.S. equity funds survived and beat their average index peer over the 12 months through June 2023.
Less than 10% of active large-cap fund managers have outperformed the S&P 500 over the last 15 years. The biggest drag on investment returns is unavoidable, but you can minimize it if you're smart. Here's what to look for when choosing a simple investment that can beat the Wall Street pros.
Actively managed funds can make up for their higher fees with higher returns. And some do, some of the time. Our research suggests it might be a safer bet to choose an index fund for the long run since trying to beat the market tends to result in lower returns than just buying it.
Disadvantages of Active Management
Actively managed funds generally have higher fees and are less tax-efficient than passively managed funds. The investor is paying for the sustained efforts of investment advisers who specialize in active investment, and for the potential for higher returns than the markets as a whole.
It's true that over the short term, some mutual funds will outperform the market by significant margins - but over the long term, active investment tends to underperform passive indexing, especially after taking account of fees and taxes.
Over the 10 years through June 2022, success rates for active managers were less than 25% in over half of the 72 categories surveyed across broad asset classes. Just three categories – global equity income, UK equity income, and Switzerland property – delivered a success rate for active managers over 50%.
S&P Dow Jones Indices' scorecard compares the performance of actively-managed mutual funds to major indices. It found that over the course of one year, 51.08% of actively-managed mutual funds underperformed the S&P 500, and 48.92% of actively-managed funds outperformed the S&P 500.
Over the full period, just 2% of actively managed Large-Cap Core funds beat the S&P 500. Even in categories such as small- and mid-sized stocks, and growth — which benefited from the tailwinds of an outperforming universe — a minimum of 81% of actively managed funds underperformed the benchmark.
The downside of passive investing is there is no intention to outperform the market. The fund's performance should match the index, whether it rises or falls.
What is the difference between active and passive mutual funds performance?
Active investments are funds run by investment managers who try to outperform an index over time, such as the S&P 500 or the Russell 2000. Passive investments are funds intended to match, not beat, the performance of an index.
Active funds strive for higher returns and may provide better capital protection in turbulent markets but they come with higher costs and risks. Passive funds offer steady, long-term returns at lower costs but carry market-level risks.
Costs and Fees: Managed funds charge fees for their services, which can eat into your returns over time. It's important to know what you're paying for, and to ensure the fees are worth the potential returns. No Guarantee of Returns: Like all investments, managed funds can lose and gain value.
| Focused funds | 5-year-return (%) | Benchmark index (%) |
|---|---|---|
| HDFC Focused 30 Fund | 18.96 | 17.45 |
| ICICI Prudential Focused Equity Fund | 19.04 | 17.61 |
| Nippon India Focused Equity Fund | 18.09 | 17.61 |
| Quant Focused Fund | 20.04 | 17.45 |
Some of the advantages of mutual funds include advanced portfolio management, dividend reinvestment, risk reduction, convenience, and fair pricing, while disadvantages include high expense ratios and sales charges, management abuses, tax inefficiency, and poor trade execution.
