Active fund management still alive and still profitable
One would expect active fund managers to be worried about the projected pressure that is going to come from the rise of passive investment.
Fund managers at the Investment Forum, held in Sandton on Wednesday, said they expected about 25% of global assets to be allocated to passively managed funds within the next four years. Already the rise of passive funds is putting downward pressure on active managers’ fees.
But Investec Asset Management deputy MD Sangeeth Sewnath believes real active managers see opportunity from the shift towards passives.
“The more people choose to
invest in passives means that there’ll be less people out there looking for opportunities in assets that are not fairly valued,” he said on Friday.
Like the fund managers who debated the future of active managers at the Investment Forum, Sewnath said there will always be a room for both passive and active to coexist and no matter how much pressure managers face, active management will continue to thrive.
“The crux of active management is about efficiently allocating capital. If everything was passive, the question is how will people allocate money because ultimately what you’ll be doing is allocating assets based on the size of the index,” he said.
In SA, the pressure to keep investment costs down has seen a proliferation of passive fund managers and index-tracking funds over the past decade.
Sherry Rexroad, chief investment officer and MD at Blackrock, said even though this is the case, active management is “alive and well and quite profitable” for investors.
Passive management assumes that markets are efficient, which is not the case and, as long as there are stocks out there that are not correctly priced, there will always be an opportunity to “exploit the inefficiencies in the market,” Rexroad said. “Each time there’s a divergence in the market, it’s an alpha opportunity. Active investment is alive and well and if you are not going through active investment, you may be leaving money on the table,” she said.
But Rexroad’s argument will not fly among investors who are concerned about active managers’ fees, especially those who simply track an index and charge up to 5% when they outperform it but still charge 1% when they do not.
Sewnath said those are the managers that will struggle in the rise of passive. “There is place for passive and for active managers to coexist. But what the global markets have shown us there isn’t a place for is active managers who are index trackers. People will find it better to simply invest in an index.”
A lot of things still muddy the waters for investors when it comes to choosing whether to go active or passive. One of them is underperformance. The 2018 mid-year scorecard published by S&P Dow Jones Indices showed that 51% of actively managed SA equity funds failed to beat the S&P SA Domestic Shareholder Weighted Capped index and S&P Global 1,200 index over one year.
The other challenge is that there are myriad active management strategies, which make it difficult for novice investors. There are index-tracking managers, while in the truly active managers’ camp, there are different kinds of managers.
Quality-style managers are more concerned about protecting investors against the downside. Value managers look for undervalued stocks and sell overvalued ones. Momentum investing managers are the closest to passive investing. They invest in stocks that have performed well in the past. The difference is that they have strict criteria for choosing which of the stocks that are going up they should invest in and why.
The premise of active investment management is that the fund manager should look at fundamentals of each stock before adding them to their portfolio. Instead of looking at past performances, they must also scrutinise companies for things that might affect their future performance such as debt levels and governance concerns. This is why environmental, social and governance (ESG) factors have traditionally been the preserve of active managers. Technology, however, has made it possible for passive managers to also track how sustainable a stock is.
In fact, according to global asset and wealth manager Schroders, $2.9bn of global assets flowed to ESG funds in 2017 and half of that was allocated to exchange-traded funds. The firm did, however, raise concerns about reliance of ESG scores provided by other data providers and limited disclosure from passive managers on how they implement ESG factors.