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Industry averages are misleading when it comes to active fund performance, says Fidelity research


By using two simple, objective filters – mutual funds with lower fees from the five largest fund families by assets – the average actively managed US large-cap equity fund outperformed its benchmark in 2015, after fees, by 0.70 per cent.

That’s according to new research by Fidelity Investments, which reveals that this same subset of funds also outperformed their benchmarks by 0.18 per cent per year from 1992 through 2015, while the average subset of passive index fund slightly trailed its benchmark by 0.04 per cent . The new report, Some Active Funds Rise Above a Tough Year, updates Fidelity’s previously released paper with 2015 performance data.

“Industry-wide averages can be misleading, and may be doing investors a disservice by giving them the perception that all active funds cannot outperform passive funds, which is simply not true,” says Timothy Cohen (pictured), chief investment officer at Fidelity Investments. “We believe the results of applying certain straightforward and objective filters can be a helpful starting point for investors seeking to identify above-average actively managed equity funds that beat their benchmarks.”

While 0.18 per cent per year of outperformance may not seem like a lot, this may translate to more money to spend, or a longer and more secure retirement. As a hypothetical illustration, suppose a retirement investor saves USD5,000 per year in two different accounts, one with 0.18 per cent of annual excess return and one with -0.04 per cent of annual excess return (assuming returns are net of fees and a constant “benchmark” return of 7 per cent). At the end of 40 years, the balance for the account with 0.18 per cent of excess return would be more than USD64,000 higher than the other account, essentially earning an additional 6.0 per cent of cumulative return.

“We believe that market outperformance – through the compounding of returns – can help shareholders increase their ability to achieve their most important financial goals,” says Cohen. “Excess returns can be an important driver of wealth creation, and actively managed funds offer you the opportunity to outperform the market.”

Although past performance is no guarantee of future results, these filters have been remarkably consistent in identifying sets of funds with above-average relative performance over time. For rolling three-year returns, the average actively managed fund selected by both filters beat the industry average a full 98 per cent of the time from 1992 through 2015. 

In addition, a statistical test indicates one can be 99 per cent certain that the historical long-term outperformance of the filtered average fund relative to the industry is significant.

Fidelity’s research also reveals that in the other largest equity fund categories (international large cap and US small cap) active managers had a better record of outperforming their benchmarks, even without applying the two simple filters. Actively managed international large-cap funds outperformed their benchmarks by 0.85 per cent per year and US small-cap funds outperformed their benchmarks by 0.99 per cent per year.

Not all active managers are created equal. The active-passive debate focuses on the industry as a whole and the performance of the average active manager. Fidelity has a number of funds that have beaten their benchmark by at least 1 per cent annually over their manager’s tenure of at least 5 years. In fact, 81 per cent of Fidelity equity funds managed by the same portfolio manager for at least 5 years have beaten their benchmark over the manager’s tenure.

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