99% of equity mutual funds fail to outperform - research

Graph downOnly 1% of fund managers are 'stars' who are able to generate superior performance in excess of operating and trading costs, according to decade-long study of UK equity funds, and even these talented individuals “extract all of this for themselves via fees, leaving nothing for investors”.

The Pensions Institute at Cass Business School, part of City University London, says 99% of all UK equity fund managers fail to deliver outperformance from stock selection or market timing.

Led by David Blake, director of the pensions institute, the researchers calculated that a typical investor would be almost 1.44% a year better off by switching to a low-cost passive UK equity tracker.

The researchers evaluated monthly returns of 516 UK domestic equity mutual funds between 1998 and 2008, and found that almost all active fund managers failed to outperform the market once fees were extracted from returns.

Nevertheless, active management remains the dominant investment and the researchers found evidence of a “star” fund manager culture.

Blake adds that large funds tend to underperform small ones because funds attracting inflows scale up their existing investment, which drives up asset prices and pushes down yields. He says funds should consider splitting when they reach a critical size.

The studies were conducted using bootstrapping, a statistical technique allowing the researchers to construct a distribution of returns, which a fund manager could achieve by luck alone.

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