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Underperforming Active Funds Increase Allure of Passive ETFs


With fewer active managers outperforming the market than anytime over the past decade, disillusioned investors are turning to passive, index-based exchange traded fund investment vehicles.

According to Bank of America data, less than one in five active managers have beat the market for the year ended October, reports Stephen Foley for Financial Times. [Epic Fail: Passive S&P 500 ETFs Crushing Actively Managed ETFs]

Specifically, only 17.7% of active managers beat the Russell 1000 index of large-cap stocks so far this year, down from 40.5% for all of 2013. Bank of America calculates that the average fund now lags behind the Russell 1000 by about 2 percentage points.

For instance, the iShares Russell 1000 ETF (IWB) is up 11.3% year-to-date. Meanwhile, the American Funds Growth Fund of America (AGTHX), one of the largest actively managed equity funds on the market with $143.7 billion in assets under management, rose 8.4% year-to-date.

Managers largely missed the blue-chip rally this year, and active funds compounded their poor stock picks during last month’s bout of volatility. Consequently, the largest active fund managers have been losing market share to low-cost, beta-index trackers and ETFs. [Lydon Talks Advisor Adoption of ETFs on CNBC]

“It has been an abysmal year,” Savita Subramanian, head of US equity and quantitative strategy at Bank of America, said in the article. “Large-cap mutual funds have a chronic bias towards smaller stocks, since it is hard to overweight the very largest stocks, but these stocks have actually outperformed by a pretty large margin this year. The smaller-cap bias has hurt quite a bit.”

The iShares Russell 2000 ETF (IWM) has only increased 2.1% year-to-date, whereas the SPDR S&P 500 ETF (SPY) has gained 11.6%.

Moreover, active managers’ overweight tech and energy positions also pressured their portfolios after global growth concerns, high stock valuations and declining oil prices weighed on the sectors.

Due to the persistent underperformance in the active space, more investors are turning to index funds and ETFs. According to ETFGI data, U.S. listed ETFs attracted $199 billion in assets over the first three quarters of 2014, bringing the total ETF assets under management to $2.6 trillion worldwide.

For more information on index-based ETFs, visit our indexing category.

Max Chen contributed to this article.

The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.