Active management redeemed?
Oct 5th, 2009 | Filed under: CAPM / Alpha Theory, Today's Post
One of the great mysteries in the asset management industry over the past 30 years has been the rapid growth of the mutual fund industry in the face of high fees and underperformance vs. passive benchmarks. Vanguard founder John Bogle, for example, has been an outspoken critic of active mutual funds for these reasons. Yet to his disappointment, investors still dump truckloads of money into mutual funds, making them a $10 trillion industry in the US alone.
Studies have shown that, overall, mutual funds don’t recoup their fees in the form of market out performance. That fact is often held up as proof that active management doesn’t pay. But is that really true? As we have complained on this website, many so-called “active” mutual funds aren’t active at all. They are closet indexers. So it’s possible that the truly active funds can out perform the index, but that performance is being swamped by the lackluster results of the closets indexers.
This is the question addressed in an August paper by Zheng Sun, Ashley Wang and Lu Zheng of the University of California.
To isolate the performance of truly active funds from closet indexers, the trio divided the universe of mutual funds into 10 deciles based on two different measures that have been discussed here at AllAboutAlpha.com. Firstly, they used the “Active Share” metric devised by Cremers & Petajisto (see related post). This measures the aggregate difference between the fund’s stock weightings and the index’s weightings for the same stock. You might call this a “bottom-up” analysis of activeness. More…
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Nothing at all surprising here particularly if you consider Hedge Funds to be a form of extreme active managment rather than an asset class. The exact same ‘embedded optionality’ or tail protection caused by whatever ‘hedging’ is going on generates the same effect see: http://www.infiniti-analytics.com/kb/kb/article/quantitative_methods_in_hfof_construction