“Active management really shines in a bear market.”
This is a thing people say all the time, and have said recently quite a bit.
While less than 10% of actively managed stock mutual funds have been able to outperform their benchmarks over five year periods according to SPIVA, the proponents of active strategies bring up the fact that, in a downturn, passive funds bear the full brunt of the market’s losses while they can be more defensive. Managers posit that they’ll be able to lower the risk for investors by owning more defensive names or raising their allocation to cash or employing tax-loss harvesting or adding hedges to their portfolios.
This all could be true.
My friend Eric Balchunas, who covers the ETF beat for Bloomberg, says none of it will matter…
I don’t see a scenario where investors decide to go back into high cost active funds, especially those focused on equities. As such, the other side of a bear market will likely create a new equilibrium where passive is 50 percent to 60 percent of all fund assets (currently it is 35 percent).
His new column at Bloomberg View makes it clear, based on the data, that cash leaves active funds during market downturns just as fast as it flees index funds. But the difference is that it comes back into index funds when the downturn ends, while it never returns to the active funds it has exited from.
I’ve described this phenomenon a lot on this blog. Investors coming back into the stock market after taking a beating are doing so in a jaded, unromantic fashion. Just give me the cheapest, least fancy way to get exposure, I don’t even care anymore. I’ve referred to this sort of thing as “investing in the missionary position.”
This applies to both individual investors and to the advisors that allocate their assets. In the case of advisors, we’ve gotten into a world where, like IBM in the 80’s and 90’s, nobody gets fired for using Vanguard / iShares. You can definitely get fired for picking active funds that underperform a bull market and then get crushed during a bear market.
Read the post and let me know what you think on my Facebook page.