Active management of investment funds is no guarantee for outperformance during volatile times in financial markets, according to a new study presented on Monday by Europe’s top financial markets authority. “There is low ability to generate sustained positive alpha, especially for larger funds,” it said.
The European Securities and Markets Authority, known as Esma, has analysed the performance of actively managed Ucits equity funds relative to their prospectus and market benchmark indices between 19 February 2020 and the end of June 2020. The period included a significant number of volatile market days when the first wave of Covid-19 outbreak occurred.
“Actively managed funds did not consistently outperform passive during this period,” researchers at Europe’s top financial regulator found, adding that the outcome of the study challenged “the accepted hypothesis” that active equity Ucits outperform their benchmarks during stressed market conditions.
Esma said the research “aims to contribute to its investor protection objective” by shedding light on performance developments of funds by type of management, especially at a time when financial markets face broad financial and macroeconomic uncertainty. The global “dash for cash” in March 2020, which came close to a market panic, was only stopped after the world’s central banks intervened.
‘Accepted hypothesis does not hold up’
“The hypothesis that actively managed funds consistently outperform passive funds in stress periods does not hold for the sample considered,” Esma concluded.
Esma said that its sample of active funds, net of ongoing costs, did not on average outperform their related benchmarks. More than half of the active Ucits analysed underperformed their benchmarks during the stressed period between 19 February and 31 March, and more than 40 percent during the post-stress period between 1 April and 30 June.
Only funds belonging to the highest-rated class consistently outperformed the benchmarks, Esma said. For the rest of the funds analysed, benchmark-adjusted performance hovered around zero or was clearly negative.
Sample of 3,155 Ucits funds
Esma’s sample included 3,155 EU27 Ucits of which 90 percent were actively managed funds and the rest passive, with a total asset value of around 1000 billion euro in June 2020, up from 800 billion at the end of February. Active funds, it said, also accounted for 90 percent in terms of assets, although active funds were smaller in size compared to passive funds.
Esma said its finding of no sustained outperformance for active funds throughout the first half of 2020 is in line with other research into the unfolding of the Covid-19 crisis.
It referred to Morningstar’s Active/Passive Barometer, which showed that only half of active equity funds outperformed compared to their passive peers during that period, and to Spiva’s Europe Scorecard, which shows that European actively managed equity funds suffered their largest single-month loss in more than ten years.
‘Only five-star funds outperform’
Considering a risk-adjusted performance using Morningstar’s star rating system, the Esma study concluded that funds whose rating was higher always performed better compared to funds with a lower level of rating. Esma’s researchers found a “significant” difference in terms of performance, noting that funds with a five-star risk rating consistently outperformed their benchmarks. Performance of other funds analysed “hovered around zero or as clearly negative”.
Esma also said its study also found a ‘negative impact of size’, confirmed by risk factors that showed alphas for estimated risk-adjusted performances weighted by funds’ net assets were lower than those equally weighted. “This indicates that large funds fail to produce sustained alpha or, in other words, to consistently achieve abnormal positive performance,” Esma said.
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