In the past five years, actively managed stock and bond funds have shown a significant rate of non-survival, and among the survivors, only a few have consistently outperformed their category benchmark.

Some people claim that strong financial markets offer opportunities for active managers to add value, while others say that active management works best in market downturns. During the past five years, the US stock market has experienced several years of moderate gains and one year of extreme underperformance (2008).

So, how have active mutual fund managers performed during this period?

As shown in this graph, of the 3,662 actively managed US equity funds operating at the beginning of 2004, 28.5% of the universe (1,043 funds) disappeared during the five-year period through 2008. Most of this non-survival occurred in years when the market delivered positive returns.

Some investors might conclude that a 71% survival rate offered strong odds of choosing a successful fund over the period, with a fund’s success defined as beating the performance benchmark for its fund category. But survival rate alone does not offer insight into future performance of a fund, as demonstrated in the next slide.

Although 2,619 actively managed US equity funds (71%) survived the five-year period, most funds did not outperform their category benchmark.

This graph shows the percentage of funds in the surviving universe that beat their benchmark in consecutive years. In the first year (2004), 33.2% of the funds were winners, but by year five (2008), only 1.4% of the funds (38 out of 2,619 survivors) had consistently outperformed their benchmark.

Additional statistics from the study reveal the inconsistency of active fund performance. On average, only 41.7% of the surviving funds beat their benchmark each year, and only 39.7% of the survivors delivered a five-year total return above their respective fund category benchmarks.

Despite the strong evidence against active strategies, some people may believe that as a group, active managers can add value. The challenge comes in identifying winning managers in advance. Some investors attempt this by choosing managers with strong past performance.

Evidence does not support their approach. In the five-year period under study, recent winners did not reliably repeat their outperformance. In fact, less than half (46%) of the funds that beat their benchmark in the preceding year did so again in the following year. Among the funds that outperformed in 2004 and 2005, only 5% beat their benchmark over the entire five years.

Like active managers in the equity universe, bond fund managers have a significant rate of non-survival and underperformance.

As shown in this graph, of the 1,670 actively managed bond funds operating at the beginning of 2004, about 27% of the universe (458 funds) disappeared during the five-year period through 2008.

Some investors might assume that a 73% survival rate offered reasonable odds for choosing a winning fund over the period, with a fund’s success defined as beating the performance benchmark for its fund category. However, survival rate alone does not offer insight into a fund’s future return.

Fund survival does not imply success. Although 1,213 actively managed funds (73%) survived the 2004-2008 period, most did not outperform their fund category benchmark.

This graph shows the percentage of bond funds in the surviving universe that beat their benchmark in consecutive years. In 2004, over 41% of the funds outperformed their respective category benchmark. By year five (2008), however, only 0.5% of the funds (7 out of the initial 1,670) had outperformed in all five years.

The study also reveals that, on average, only 30.1% of the surviving funds beat the benchmark in a given year, and over the five-year period, only 12% of surviving funds (146 out of 1,213) delivered a total return above their benchmark for the entire period.

Despite the strong evidence against actively managed bond funds, some investors believe that active managers as a group offer the best opportunity for long-term success, assuming these managers can be identified in advance. One approach is to buy recent winners in hopes that their outperformance will continue in the future.

But past winners did not typically repeat over multiple years. In this five-year period, on average, only 42% of the funds that beat their category benchmark in the preceding year outperformed in the following year, and of the funds that outperformed in 2004 and 2005, less than 2% (7 out of 399) beat their benchmark over the entire five years.

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