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Where it paid to track the index in 2015 – and where it didn’t

04 February 2016

FE Trustnet looks through the data to see which areas of the market favoured active funds in 2015 and where passives largely came out on top.

By Alex Paget,

News Editor, FE Trustnet

Europe and the UK were by far the best hunting ground for active funds in 2015, according to the latest FE Trustnet study, while the large majority of managers failed to beat the index in regions such as the US and Japan.

The ‘active versus passive’ debate has rumbled on for some time now and only intensified over recent years due to a greater focus on costs by investors.

In reality, though, the debate will never be won as there is no black or white answer to whether picking an active manager or simply tracking the index is the better option – no matter what either side tells you.

Nevertheless, there are certain conditions and markets which favour either an active or passive approach.

Therefore, in this article we have looked through the data to see which regional areas of the equity market were good or bad hunting grounds for active managers during last year’s turbulent conditions.

It is also worth pointing out that these figures do have survivorship bias as they only include funds that are in existence today. While this could be a major flaw for a longer term study, the very small amount of closed or merged funds over the past 13 months won’t have had too much of an effect on the data here.

The table below shows the major regional Investment Association equity sectors, the number of active funds in those peer groups with a long enough track record and the proportion of those funds that beat the most commonly used benchmark in those sectors in 2015.

In the UK we used the FTSE All Share, the S&P 500 in the US, the Topix in Japan and the relevant MSCI indices for the remaining sectors.

The final column shows the average total return of active funds in those sectors relative to the relevant index.

Performance of active funds in the Investment Association universe in 2015

 

Source: FE Analytics

As 88.04 per cent of active funds managed to beat the index, the IA Europe ex UK sector was the best hunting ground for managers in 2015. This is further shown by the fact the fact the ‘average’ active fund in the peer group (with its returns of 9.89 per cent) beat the MSCI Europe ex UK index by 4.78 percentage points last year.

Previous FE Trustnet articles have shown that active managers tend to fare well in Europe, such as one we wrote in March last year which found that 70 per cent of IA Europe ex UK funds had beaten the index over three, five and 10 years.

The reasons why 2015 was such a good year for European active funds largely relate to the composition of the index.

For example, some of the largest sectors within the MSCI Europe ex UK index are financials, industrials and basic materials which performed relatively poorly in 2015 due to regulatory concerns, the Greek debt negotiations and slowing emerging market growth.

Therefore, by avoiding those sectors and focusing on more ‘domestic’ European stocks that benefitted from an improving economic backdrop, most active managers were able to beat the index by a comfortable margin.

The best example of this was the five crown-rated Man GLG European Growth fund, which is managed by Rory Powe.

According to FE Analytics, the fund was the sector’s best performer with gains of 30.90 per cent and – thanks to Powe’s focus on growth – was underweight areas such as the banks but overweight consumer products and rallying smaller companies.

Performance of fund versus sector and index in 2015

 

Source: FE Analytics


 

On the other hand, Allianz European Equity Income was the peer group’s worst performer with returns of less than 1 per cent due to its significant financials and oil weightings, with the likes of Total, Royal Dutch Shell and Statoil currently featuring in its top 10.

Investors will realise that these themes also drove the outperformance of the ‘average’ UK equity manager.

According to FE Analytics, some 77 per cent of active funds in the IA UK Equity Income and IA UK All Companies sector beat the FTSE All Share last year.

Again, it is the make-up of the index which drove this relative outperformance. The UK market is, after all, heavily biased toward natural resources stocks that faced significant headwinds in the form of plummeting commodity prices.

Instead, active managers only had to take a small overweight position in FTSE 250 stocks (an index that returned 11 per cent thanks to an improving economic backdrop and business-friendly government) to beat the FTSE All Share index (which is 80 per cent biased towards the FTSE 100) and its meagre return of 0.98 per cent.   

Performance of composite sector versus indices in 2015

 

Source: FE Analytics

Again, this dynamic is shown by the performance of the best and worst returning UK funds.

While the average active fund in the UK returned 5.79 per cent last years, those figures were dragged up by certain funds that are almost entirely invested outside of the FTSE 100 – such as Premier ConBrio Sanford Deland UK Buffettology, PFS Chelverton UK Growth and FP Miton Undervalued Assets which all returned more than 24 per cent.

At the other end of the spectrum, the funds with the large losses were those that were heavily exposed to the mega-cap end of the UK market.

Schroder Recovery, for example, lost 13 per cent in 2015 as FE Alpha Managers Nick Kirrage and Kevin Murphy’s ‘deep-value’ style meant the fund was heavily exposed to financials and commodity-related companies.

In general, though (and as the table on page one shows), 2015 turned out to be a relatively good year for active managers in most parts of the world thanks largely to macroeconomic headwinds.

Even in areas where they have struggled to add much value over the longer term this rings true – such as in the global emerging markets sector where 60.68 per cent of funds beat the MSCI Emerging Markets index’s loss of 9.91 per cent. When we ran a similar study in September last year, only three funds in the peer group had managed to beat the index on a 10-year view.

The reason for this change in performance is due to China’s equity market falls, concerns around its economy and the resulting plunge in commodity prices. This is because the index is heavily weighted to China, basic materials and large state owned enterprises which were hit hard during the negative sentiment.


 

Of course, though, investors were rewarded for going passive in certain areas of the market: most notably in the US and Japan.

The US has historically been a very poor hunting ground for active managers (as shown by the fact the IA North America sector has underperformed relative to the S&P 500 over one, three, five, 10, 15 and 20 years).

Performance of sector and index over 20yrs

 

Source: FE Analytics

There are many reasons why this has been the case such as the efficiency of the market and an historical tendency to stick relatively close to the index. However, Goldman Sachs Asset Management’s Suneil Mahindru says there the main reason 2015 was so poor for active managers was due to the narrowness of the market.

“The breadth of the S&P 500 in 2015 was the narrowest it has been in three decades,” Mahindru said. “The difference between haves and have nots was if you held Amazon in portfolio you did extremely well, but if you didn’t own one stock it made all the difference.”

“The top 10 stocks in the S&P 500 was plus 5 per cent, the other 490 companies were down 5 per cent.”

Japan is another area where active managers have tended to struggle against the Topix and in 2015 just 26.78 per cent of them outperformed.

In a recent paper, Jon ‘JB’ Beckett –UK research lead at the Association for Professional Fund Investors – discussed why this has been the case.

While there were certain funds such as Legg Mason IF Japan Equity that made 50 per cent last year thanks to a very high-beta mid and small-cap biased approach, Beckett notes that most UK-based active managers in Japan (whether they are value or growth-orientated) have been caught out by momentum investing.

Beckett says this is because having been widely-hated area of the market for decades, prime minister Shinzo Abe’s reforms and subsequent yen weakness has brought huge amounts of foreign investors who have used cheap exchange traded funds (ETFs) for their exposure.

“Most [Japan active managers] tend to buy smaller second tier Topix companies because the large-caps are considered too heavily covered by analysts and already bought by the passives and global equity funds,” Beckett said.

“Before Abenomics you had very competent conservative, often value-based, managers grinding out and compounding small gains against the index over time. Many of those gains then got wiped out very quickly between 2011-2013 through a post-earthquake recovery due to capital inflows, yen depreciation, initial signs of Japan inflation and new cyclical consumer spending.”

He added: “So yen depreciation led to a momentum market that has frankly beaten up a lot of active managers.”

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