The Morningstar Report: Fees Matter
Another interesting, and related, finding was that investors tended to select better performing funds, evidenced by the fact that full-category, asset-weighted returns were generally higher than equal-weighted returns. In other words, investors seem to be learning that fees do matter. However, researchers also found that this result didn’t hold within fee quartiles. Thus, investors were benefiting simply because they tended to choose funds with relatively lower fees.
Active vs. Passive Success
Success rates in other styles ranged from as low as 14% for U.S. mid-cap blend funds to as high as 48% for U.S. small value funds. Aside from U.S. mid-cap value and U.S. small-cap value, no other equity asset class showed a success rate of greater than 41%. And in the supposedly inefficient asset class of emerging markets, the success rate was just 37%. Even if you limited your choices to the lowest expense quartile, the success rate of active emerging-market funds was still just 47%. I’d add that in another supposedly inefficient asset class, U.S. small-cap growth, the success rate was only 24%.
Finally, it’s important to keep in mind the caveat that the data in the report is all based on pre-tax returns. Given the generally greater turnover of actively managed funds, failure rates would surely have been much higher for taxable investors. It’s often the case that the largest expense incurred by actively managed funds is the cost of taxes.
The Bottom Line
The bottom line remains the same: as Charles Ellis wrote in his 1998 book Winning the Loser’s Game, active management is a loser’s game. And like all losers’ games, the surest way to win is not to play.
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