The Great Move Away From Active Funds

While reading Bloomberg Businessweek magazine (June 27th-July 3rd 2016), there was a fascinating article on the shrinking business of actively managed funds, which definitely warranted a blog update. The article is titled “Active Managers Start To Feel the Pain” by Charles Stein.

The article underlines how many active funds are cutting down on staff as a response to recent reduction in portfolio sizes. These actively managed funds aim at picking investments (bonds and stocks) to beat the market index benchmarks. The Bloomberg article states that in the past 5 years, using December as the reference point, only 39% of active funds beat their benchmark. What’s important to note here is that these funds are substantially more expensive to own they index funds, especially if you are located in the U.S. - where you have direct access to certain index funds that can cost you around 0.05% in MER, while an active fund can charge you north of 1% (weighed average of 0.82%, according to the article). People are catching on - why pay more for what will probably perform worst?

The article states that since 2011, passive funds have experienced an inflow of $1.7 trillion while, while active funds experienced an outflow of $5.6 billion.  This is bad news for the active managements.  Money is flooding into index funds and slow sifting out of active funds, and the trend is likely to continue. The U.S. department of labor has placed new rules that require financial advisors to recommend retirement investment that puts their clients' needs as the primary focus; which will more often than not result in some type of passive fund.  Historically, financial advisors may have been biased or incentivized to recommend other products, such as actively managed funds.

Here are two quotes from the article:

“It’s pretty clear that active managers have not performed above their benchmarks to any great degree” – Peter Kraus, CEO of AllianceBernstein Holding (Asset management company).

“The reality is indexing is taking over” – Gregory Johnson CEO of Franklin Resources (Global investment firm).

Such trends are beneficial for the individual investor, as more money will be retained, on average, by the investor as opposed to making active fund managers extremely wealthy. Furthermore, the more individual investors that are getting into index funds, the more competitive products will likely become available. This may be especially significant in Canada where index funds that are directly available (such as TD e-series) are still substantially more expensive compared so those in the U.S. (such as Vanguard)*.

Hope you are all doing great and apologies for the long delay in not producing an article. Please interact by commenting below and help share the blog if you enjoy the content!

-Yinvestors.

Check out some of our other popular articles:
Best Index Funds and ETFs (Canada)
TFSA: Index Funds vs. ETFs
Choosing an Index Portfolio Model

*Vanguard funds can be obtained in Canada, but they must be purchased as ETFs through a broker, which comes with added fees.