That implies that on 1.1.2002 you could have predicted the 59% of funds that will close over the next 15 years and avoided investing in them.
The simplified example is this. 10 years ago there were 10 funds. 8 of them no longer exist today. 1 outperformed. 1 underperformed. What is the probability of someone investing in a fund 10 years ago and outperforming? Your answer is 50%. My answer is 10%.
However you choose to answer that question is up to you.
Edit: The track record of the closed manager doesn’t have to be bad. As suggested earlier, a fund can close for other reasons. That positive performance is reflected in the results. But, the reason most funds close is poor performance that leads to fund outflows. There’s very few funds that have ever shut down because they were doing so well. They may close to new investor dollars, but thats not what we’re talking about.
this is pretty interesting…This is when someone goes (like the scene in Margin Call) Husky, what is your CV? your qualifications??
Then you say…Undergrad at Stanford in theoretical physics, and masters at MIT in nuclear physics and Phd in jet propulsion also at MIT. All under 30 years of age. Came into finance to beat all these dark suit wearing, big shot wannabees with joke degrees (finance and economics) in the market and make millions a month for myself.
Oh you’re a scientist?
Yes, I was…Worked for the military division of Lockheed with SF86/Level 6 clearance as co-head of the design and engineer team of the next generation air superiority fighter jets. So this index stuff is easy stuff to me…I am right and you are not only wrong but very wrong.
I understand where you’re coming from, I really do. We’re just looking at it differently. What I find more interesting is the number of funds that I can invest in today that have a 15 year track record that have outperformed. Of course, past results are no blah blah blah…but, really they kinda are.
You’re interested in how you would have done if you’d thrown a dart 15 years ago. Ok, fair enough. But that doesn’t really tell me anything about the active manager landscape today. The conclusion is misleading at best.
It’s misleading if you read fast and want to change the subject. There’s nothing misleading about the report.
What you want to talk about is performance persistence, which is well documented to also be more a myth than reality. You seem to trust Morningstar, so don’t trust me, read their research…
We can talk about consistency of returns but that’s pretty far off-topic. What’s misleading about this report is when someone comes out and says 99% of actively managed small cap growth funds have underperformed. That is in no way, shape, or form true. Let’s say you’re sitting down with a client and talking about going passive in the small cap space. The client asks you how many small cap growth funds outperform their benchmark over the last 15 years. You say less than 1%…that’s a lie (or fake news, if you like). And, god forbid you have an engineer for a client, they’ll look up the same data I did and see you’re wrong. You can try to backpedal and talk about survivorship bias and how funds that were only around for 1 out of the 15 years were still included, but do you really think your client will buy that? If so, you’re a much better sales person than I am. And you’d still run into questions about benchmarking, style consistency, and PM turnover. Essentially, that report is worthless.
A much more straight-forward, honest answer would be “about half” of actively managed small cap growth funds that the client can invest in today that have a 15 year track record have outperformed their benchmark. That’s accurate and germane to the client.
That’s really what this is all about. I’m not heated or pissed or anything. I am a bit shocked that this passes the sniff test with anyone here. The fact that you’re a financial advisor and you’re buying into this is concerning. You should know, just using common sense, from being in the industry and analyzing funds that there are plenty of small cap growth funds that have a solid history of outperformance. I’m just bewildered, I guess.
while the study below is a bit dated and is for large caps, it does show that survivorship bias reduce the percentage of outperforming funds by about half over fifteen years. i would think the odds of outperformance over such a long period can’t be much more than 33%. the argument that if you invest with people with proven track records doesn’t hold much water over a 15 year time period as much about a management team or style can change over that length of time. if you say someone with a 20 year track record has a much better than average chance of outperforming over the next 15 years you obviously have little understanding of statistics and how sample size affects statistical confidence.
and apparently small cap funds do worse than large caps, in general. most of what i see on the interwebs is that the odds of performance are closer to 15% over long time periods. remember that small cap managers typically charge higher management fees and will typically have higher trading costs than mid and large cap funds. this 10-20% additional fee grind over 15 years makes it quite difficult to outperform.
“If you go to a dentist, if you hire a plumber, in all the professions, there is value added by the professionals as a group compared to doing it yourself or just randomly picking laymen. In the investment world it isn’t true. The active group, the people that are professionals in aggregate, are not, cannot, do better than the aggregate of the people who just sit tight.”
sadly i agree with the above said by Mr Buffett. I have wrote in many different threads in this forum that the path to riches and power in finance is not about outperforming your benchmark or beating your competitors (although it helps to beat your competitors). It is about having a great looking resume and equally great looking physique and the right last name. Then you climb up the position and it is this position that brings you money and power. Over the 10-15 years while you hold that high seat (PM or CIO or Dir of Research) in high finance, your sector will have those epic bull market runs. You will ride out that bull wave and cash out. Yeah you’ve made money for your investors but did not beat the market but nobody cares about that. This is the story of active management especially for hedge funds and PE funds.
I do believe there are PMs out there than can and do consistently outperform over a market cycle. Not many PM teams stay together for 25 years though, so your point is taken. As long as people do their due diligence after their initial screen, they should be able to find stable PM teams that have a solid track record. When we have a PM leave, everything grinds to a halt. Institutional buyers put everything on hold, if the fund is on a rec list it gets placed on watch, or if it was in an active search you’re pretty much done. That’s all well and good for professional buyers since they stay up to speed on all the news. It’s the retail investors that bought Fidelity Magellan when Peter Lynch was running it and never sold it when he retired. As usual, they’re the ones that get screwed.
I don’t know that I would go that far. There are reasons why certain hedge funds exist and private equity can certainly give a more complex organization, such as an endowment, exposure to an area of markets not covered by publicly traded stocks. As an example, the number of publicly traded small cap stocks has declined significantly since the introduction of Sarbanes-Oxley, which made it much more burdensome for companies to become public companies and listed on an exchange. So, private equity is the mechanism that has stepped in to provide a more efficient way for these companies to access capital and grow. Of course, many HF and PE firms are struggling to justify their fees, and so they’ll need to continue to reduce those to remain viable, but that’s true of just about any business.
I think if you rephrase Mr. Buffett’s comment to specifically address stock pickers, whether in MF or HF form, then his comment rings true.
STL, I am not sure you are following what Huskie is saying. Has anyone addressed whether Huskie points are as valid for a 15 year old fund as a 1 year old fund? It seems this is the critical assumption by Huskie and the difference between the two views. I have no idea if they are the same or not. I’d suspect they are the same, but not very confident with that hunch.
No, I get it. I’ve just moved on. To make my point very clear, I don’t give a s h it about survivorship bias and I’ve never talked to anyone that does. There’s really no practical application for it. It’s just an academic circle jerk.
When you charge 2% every year and 20% in performance fees…you’re not going to beat the market. Okay very few and when I say few around 10 funds which are the ones you never hear in the media because these PMs don’t give a damn about his face time on CNBC. As you can clearly from your links even mutual funds have hard time beating the benchmark and very few charge 2% a year and none of them charge performance fees.
So, here’s an example that I was building to confirm MLA’s comment, but fits in with your question so I’ll respond to you. And, just for the record, this example assumes that survivorship bias isn’t important.
Let’s look at large cap value funds with a 15 year track record. This will give us a performance track record for just the guys that have survived and eliminate all the rookie funds that died off within a few years. I go into Morningstar, search on the morningstar category of US Large Cap Value, and insert the data point returns from 1.1.2002 - 12.31.2016. This filter shows me that there are 97 mutual funds with a 15 year track record.
I go over to indexes and search for US large cap value indexes. There are 15 total, but only 12 of them have a 15 year track record. We have to exclude one because it’s ‘Mega Cap’, we have to exclude one because it’s ‘Russell 1000 Value Energy’, two because they are ‘top 200 funds’ and one because it’s ‘Pure Value’. Removing those 5 indexes because they are misfits leaves us with 7 indexes worthy of use.
CRSP US Large Cap Value - 6.98%
DJ Style US Value Large Cap - 6.99%
DJ US TSM Large Cap Value - 7.23%
Fama-French Large Value - 6.41%
Russell 1000 Value - 7.41%
S&P 500 Value - 6.67%
Wilshire US Large Value - 7.29%
The average 15 year performance for these indexes is 6.997%.
So, we go back to our list of 97 mutual funds, and we see that 35 of them performed better than 6.997%. This means that 62 underperformed, or 64%.
We go back to the SPIVA scorecard that is the original topic of this post, and they report that 78.54% of large cap value mutual fund managers have underperformed their benchmark. They, as we’ve discussed and I agree with, feel that survivorship bias is very important. Either way 64% and 78% are relatively similar and this simple analysis confirms that the SPIVA report is very accurate.
So, rawraw, even if we narrow the universe to only the funds that are 15 years old, we see that the probability of having outperformed is well below 50%. And, to STL’s point, if you’d like to then assess how these funds perform over the next 15 years, you’ll be running into issues of structural change and turnover, making it unlikely that these results will be replicated. The research I’ve seen is that funds which have outperformed over the prior 10 years have roughly a 1 in 4 chance of outperforming in the next 5 years.
Absolutely. And if the goal is to pick winning stocks, there’s close to 0 chance that anyone can do that profitably net of fees with a 2/20 structure. All I’m saying is that there are some HF and PE firms where that’s not the goal. They may be designed to accomplish other goals that don’t include just picking winning stocks. So that’s all I’m saying, we’re in agreement on your point.
