Bull than Bear Markets
July 27, 2010
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The debate between active and passive investments has continued to heat up over the past decade, in both industry and the academic arena. Since 2004, I have conducted a series of research studies comparing the historical and potential benefits of active investing with index-based, passive portfolio management in a broad range of investment categories. These studies have been published in several FundQuest white papers and broadly reported in the media.
My research leads me to conclude that both types of investing have their strengths and weaknesses; it depends on the market segment in question and on the economic climate. Active managers tend to add value in bull markets, but their value is shakier in bear markets. Many investors use active management in part to provide downside protection, but, on average, the active managers I researched did not outperform in bear markets after adjusting for risk. The results indicate that, to optimize their portfolios, investors should consider a blend of both active and passive investing.
Over the past few years, the industry has indeed gradually shifted towards a more blended approach. Today, active and passive investments are viewed by many as complements, not rivals. Many traditionally active investment management companies have begun to offer passive investment products in their lineup, and some index fund and ETF providers now offer “actively managed” ETFs. Now the key questions are where and when to use active management and how to identify skilled managers.
We at FundQuest recently released the latest version of our white paper, “When Active Management Shines vs. Passive: Examining Real Alpha in Five Full Market Cycles over the Past 30 Years.” Compared to previous studies, this study doubled the research period from 15 years to 30 years, now covering the time period from January 1, 1980 to February 28, 2010, which was divided into five full market cycles, including five bear markets and six bull market periods. From the beginning of a bear market to the beginning of next bear market was considered one full market cycle. Instead of looking at calendar year or trailing period returns, the study evaluated managers’ performance in three ways: over a full market cycle, in bull markets, and in bear markets. In doing so, the study provided insight on the market environments in which active management added value. In addition, the study identified some factors that have been shown to have an impact on real alpha generation.Display article as PDF for printing.
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