The news hasn't been good lately for actively managed funds and their investors. In 2011, only one-third of large-cap fund managers beat the S&P 500 index.

Given that large-cap is the single most popular strategy investors choose as their core equity allocation, this statistic indicates the vast majority of investors would have been better off ditching their actively managed fund for an index tracker. And to look at the asset flows disparity between equity exchange-traded funds (ETFs)—very popular—and mutual funds (mmm...not so much) over the past few years, it would appear investors are increasingly doing just that.

So we had to ask, if failing to meet the S&P 500's return is enough to warrant a switch to a passive choice, are there other benchmarks that pose greater—or importantly, fewer—challenges to active fund managers? To begin, we looked at the performance of nearly 5,200 non-index funds of the equity, mixed-asset, and fixed income asset classes. These were funds for which Lipper tracks the portfolio manager's benchmark, and were funds that had at least one year of performance by the end of 2011.

One of the first things we noticed in the data was how very popular some indices were as benchmarks (the S&P 500 had the most in this sample, with 1,224 portfolios benchmarked), while others had few adherents: 324 indices were each the benchmark of choice for 10 or fewer funds. In the end, we decided that the 15 most popular indices would make the cut. Yes, there was probably something to learn from those unheralded benchmarks out there. (For instance, were they chosen because they could be gamed? Did they better represent an investable universe?) But we left them for another time. That left us with 3,289 funds whose benchmarks certainly qualify as popular.

As it turns out, losing to the S&P 500 last year wasn't quite as shameful as we thought—not when compared to the dreadful performance put forth by managers tracking the Barclays Capital U.S. Aggregate Bond index. Of the 324 funds that reported that index as their performance benchmark, only 26, or about 8%, managed to beat the index. Bill Gross's well-publicized underperformance by his PIMCO Total Return fund was far from exceptional, unfortunately. And managers didn't miss their target by just a hair; they missed it completely, by an average of 3.86 percentage points.

Another huge disappointment was among funds tracking the Russell 1000 Growth index. Typically the domain of large-cap growth and multi-cap growth managers, the Russell 1000 Growth wasn't an especially strong performer last year, yet only 14 of 169 funds could beat it (another 8% success rate). Managers missed this target by a wide margin too, underperforming by an average of 4.24 percentage points for 2011.

But there were some success stories, too. Managers tracking the MSCI World index did a better-than-coin-toss job (about 51%) of beating their index, although some missed the mark enough that the average fund underperformed by about 0.58 of a percentage point. Better luck was found with the Russell 2000 and Russell 2000 Value indices. The small-cap core managers who typically track the Russell 2000 beat their bogey 58% of the time and by an average margin of 0.77 of a percentage point, while the small-cap value managers who benchmark the Russell 2000 Value beat it 66% of the time and by a whopping 1.28 percentage points on average.

Success rates against the other benchmarks were below 50% and ranged from 21% for those benchmarked to the Russell 3000, 43% against the Barclays Muni Bond and MSCI EAFE indices, and an almost-noteworthy 47% against the Russell 2000 Growth. As you can see in the table below, active managers had better (and worse) luck with some indices if we look back further to three- and five-year performance. The Barclays U.S. Aggregate was handily beaten by 90% of the managers who benchmarked against it over the past three years. Yet, over a longer period (five years in this case) the success rate dropped back to only 26%.

Certain indices stand out for the success active managers have had against them. The Russell 2000 index, a typical bogey for small-cap core managers, has been consistently beaten by roughly 60% of managers over all periods. The Russell 2000 Value was an even better mark for active managers, with success rates in the 90% region over the longer periods. Curiously, the third leg of the Russell small-cap benchmarks—the Russell 2000 Growth—has been an elusive target for managers. A similar pattern can be seen among the Russell 1000 indices, where large- and multi-cap managers enjoy better success against core and especially value targets, but much less success against the growth version. Among advisors, a solid record of benchmark-beating performance is a key consideration for placing client assets. However, much can also depend on which benchmark that success was measured against, with particular indices proving far more challenging than others.

 Jeff Tjornehoj is head of Lipper Americas Research,
focusing on the United States and Canada. He is a regular
contributor to Lipper's Fund Flows and Closed-End Funds reports.



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