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New data shows that long-term performance of active bond funds has generally failed to beat the market, pushing more investors towards fixed income exchange-traded funds instead.
S&P Global found in its semi-annual report this week that most investment grade bond funds under-performed the market over the past ten years. The performance dips even further when it comes to actively managed high-yield bond funds – less than 4% of them beat the market over the same period – and active emerging market debt funds.
The data was compiled by comparing active fund returns, net of fees, to market benchmarks, rather than comparing them to passive funds, such as ETFs, which would also incur management costs.
Findings such as these continue to pile pressure on active managers in this asset class, who have long argued that bond market inefficiencies and the problems with accurately tracking bond indices via a passive vehicle make an active fund a preferable choice.
“The figures for fixed income are mixed over a one, three or five-year view, but clear over ten or 15 years,” Aye Soe, global research director at S&P, told the Financial Times.
“A lot has been said about the inefficiencies of the fixed income indices and the market nuances that contribute to the asset class’s returns. Despite that, active fixed income managers still underperform these so-called inefficient benchmarks after deducting fees.”
Active managers argue that passive bond funds come with structural issues, for example a market capitalisation weighting scheme means that the most heavily-indebted bond issuers get the most exposure. Diversified bond indices are also very difficult to track through a full replication method, usually resulting in a type of stratified sampling approach instead which may increase the risk of tracking error in the fund. Nonetheless global investors have ploughed $44.5 billion into fixed income ETFs year to date, pushing total assets in these funds to $650bn, according to BlackRock’s March Landscape report.
Although money has been flowing out of active funds and into passives due to the former’s arguably poor long-term average performance and higher fees, the transition in the fixed income landscape has been relatively slow. In the last year to the end of February, passive bond funds took in $167bn while active funds also had inflows of $87bn, found Morningstar.
The shifting of investor preference is much clearer amongst equity funds. The S&P report found that 66% of US large-cap active funds failed to beat the S&P 500, and 86% of US small-cap active funds missed their mark. Investors can access an ETF tracking the S&P 500 for as little as 0.05% through the Source S&P 500 UCITS ETF (LON: SPXS).
As a result, investors have shifted out of actives. In the one year to the end of February, equity active funds lost $264bn while passive funds gained $285bn.
The active fund world has released its own research to provide a counter-argument. PIMCO, the manager of the world’s five largest active bond funds, released a study this week based on Morningstar research which showed that almost 70% of intermediate-term bond funds outperform their passive counterparts over 10 years.
In categories such as high yield, however, PIMCO said that there were not enough active funds which had lasted that long to provide usable results.