One of the counter-arguments brought-forth by active management believers would be that they can utilise some other instruments (bonds, derivatives, or even cash) in a market downturn to achieve better performance in a market downturn (like the one that we are having now). Thus, I will be examining if this saying holds up when we look like historical data:
Links:
1. https://www.onedayinjuly.com/active-vs-passive-in-down-markets
2. https://advisors.vanguard.com/iwe/pdf/FASAPMSM.pdf
3. https://advisors.vanguard.com/iwe/pdf/FASAPCM.pdf
4. https://www.morningstar.com/articles/852864/will-active-stock-funds-save-your-bacon-in-a-downturn
5. https://us.spindices.com/documents/spiva/persistence-scorecard-december-2019.pdf?force_download=true
From the POV of active investment:
Passive investments would rely on the market index (index funds/ etfs) for their investments. As the market goes into a downturn, active investment would shine as they would often own stocks that are outside of the index. This would mean that they have the potential of performing better than the market index when it goes down. A skilled manager would only pick the good stocks in the stock market and hence, it should perform a lot better than just buying all the stocks in the market using index funds.
Looking at the figure above, we can see there in a bear market, active managers do perform better than compared to a bull market. Hence, from a short-term perspective, active managements can be considered as a way of investment (Provided that we can choose the ones capable of choosing the right stocks)
However, when we attempt to look at things from a long-term perspective (i think of around 10 years?). The graph above actually shows that for the top 20% actively-managed funds in one crisis, only 23% would remain in the top 20% for the next crisis.
Effectively, only 4.6% of actively-managed funds would remain in the top 20% in their performance for a period of 2 crisis. The issue of how we want to select this 4.6% is beyond me, as I believe that it is more likely due to luck that they actually remained in the top 20%. Evidently from the 77% that actually slide below the quintile.
The same also applies if we look at the US small-cap funds and emerging market fund. Please look at link number 1 for that.
Also, looking at the SPIVA scorecard, which includes 12 equity buckets spread across Large-Cap, Mid-Cap, Small-Cap, and Multi-Cap. Each of those four broad categories is further divided into Core, Growth and Value sub-categories. The 13th category is Real Estate funds. The SPIVA score card has data started in 2001.
Looking at the 2001 dot com bubble burst and the 2008 financial crisis, only 4 out of 13 of the categories has more than half of the active funds beating their respective index in 2001. In 2008, only 2 our of 13 of the categories has more than half of the active funds beating their respective indexes.
Hence, even in a market down turn, we are unable to see substantial evidence that active management would perform better than their respective indexes. This is especially evident in the previous paragraph, where only 4/13 of the categories of active funds out perform their indexes in 2001, only 2/13 of the categories of index funds out perform their indexes in 2008.
In conclusion: when we look at the short-term perspective, there are indeed a substantial proportion of active funds that will outperform the market (50%, so if you would want to choose a fund, you can choose to flip a coin), However, in a long-term perspective, there is no substantial evidence that active management would consistently perform better than passive-investments. Between one crisis to another, there is no consistency in which fund will always do well in the crisis.
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