Why is it so hard to find good active managers?

Why is it so hard to find good active managers?

Why is it so hard to find good active managers? Skilled active managers might be a rarity, but they do exist. But while such managers are able to generate decent returns, those returns get diminished as they take on more work.

This was according to a newly released study from the University of Oklahoma, as reported by James Saft on Reuters. Unlike other studies that evaluated mutual funds regardless of the number of managers running them, the University of Oklahoma research focused on the managers themselves, and was limited to funds handled by solo managers.

Data from 1992 to 2014 supported the case for active management. Performance persistence over time was “significantly larger than what one would observe if managers had no skill, which suggests that the observed performance of managers cannot be explained by luck alone,” said study authors Ilhan Demiralp and Chitru Fernando.

In terms of outperformance, the study proponents found that instances of fund managers outperforming the market lasted “for at least six years.”

Managers who work for fund families and gain attention for outperforming the market are often handed new funds to handle. That leads to the talent getting diluted; among the top 10 managers who have just one fund, benchmark-adjusted returns averaged 14.1% annually, but fell to 7.79% when managers ran two or more funds with the same mandates.

Manager performance dipped even further when they’re asked to take on funds in new asset classes or different goals, falling to 5.3% on average among the top managers.

The need to avoid spreading managers too thin may explain the trend toward funds managed by teams. In 1992, almost 70% of mutual funds had just one manager at the helm, but now around 70% are managed by teams.

Saft said that teams also outperform by a variety of measures without taking on more risk than solo practitioners, according to a 2016 study by Saurin Patel of the University of Western Ontario and Sergei Sarkissian of McGill University.

Teams could do better not just because of division of labour, but also due to diversity. Strategists at Credit Suisse cited the benefits of “cognitive diversity” — combining people with different knowledge bases, methods, and mental models. They also said that teams with a large percentage of women tend to “perform well and better than teams with a similar percentage of males.”

The trick is to have enough hands working in the kitchen, but not too many cooks. Three-person teams were found to outperform solo-managed funds by about 60 basis points on a risk-adjusted basis. Teams of two and four also outdid solo managers, but by less.


For more of Wealth Professional's latest industry news, click here.


Related stories:
Investors demanding lower-cost funds
The vital factors in selecting an active fund
 

More market talk: