Believe it or not: active management is not dead

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Russell Investments has embarked on a “massive study” on the lessons for active management in the pandemic era.  Dr Leola Ross, Russell investment strategy research director, told the group’s NZ virtual annual conference audience last week that all investors should review their market beliefs in the wake of COVID-19.

“We’re figuring out our own expectations from here,” Ross said. “How do we think about the kinds of tilts we’re willing to accept from our managers and those that we’re willing to take on our own. We’re doing a deep dive into what happened, why it happened and what we should do next. And I encourage all of you to do the same.”

Speaking via Zoom in the final week of Russell’s staggered online NZ conference, Ross outlined some of that research showing how active managers had performed during three distinct periods since 1999. The new research, which measured the performance from a sample of managers with demonstrable ‘skill’, found active alpha declined over the first period under review from 1999-2014 but remained at Russell’s expectations.

Breaking up the 15-year span into shorter time periods, the outperformance of the median active manager in the study fell from 4.73 per cent over 1999-2002 to 1.35 per cent in the final three-year stretch.

However, active alpha largely disappeared during 2015 to 2018 where the median manager returned just over 1 per cent above the index before fees.

At a higher resolution, the Russell data also shows the difference between active equity managers focusing in single country markets, global jurisdictions or the smaller company sector. According to Russell’s baseline targets, active alpha should range between 1.25 per cent for single-country to 1.5 per cent for multi-country and 1.75 per cent for small cap managers. “Skill was not enough [over 2015-18],” Ross said. “The median outcome for skilled multi-country managers was only 66 basis points – there was no upside and even luck couldn’t help.” While small cap and single-country managers in the study delivered slightly higher alpha, investors needed to pick the ‘lucky’ firms (those in the top 25 per cent by returns) to earn an active performance dividend. “This was a very difficult period for active managers,” she said.

From 2019 onwards the conditions for active outperformance have picked up with improvements across median manager results in the multi-country and small cap sectors, the latter hitting the Russell baseline target. The median single-country manager, though, turned in a worse result (at index before fees) from 2019 compared to the previous four-year period.

But the study identified a huge jump in the range of active manager performance in the final period under review (that covers 2019 until the end of March this year). Across all managers, performance ranged from about 3 per cent below the benchmark for the bottom-quartile bunch to more than 5 per cent above index for the top 25 per cent.

“The range of outcomes actually blew out over 2019 to 2020,” Ross said. “If you were lucky enough to find those managers that did really well there was significant upside in 2019-20. And there was material downside if you were wrong.”

Overall, she said reports of the death of active management were premature. “We can see that active management is alive but maybe still in recovery,” Ross said. Investors should be questioning their beliefs in active management, factors, asset class performance expectations and so on. “If you feel like you don’t actually believe some of these things anymore, [ask]what does it cost to change… and what are other choices you can make,” Ross said.

The Russell NZ annual conference played out online this year due to coronavirus-related travel disruptions. All sessions are available here.

– Investment News NZ

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