Yes, active equity managers tend to perform better when the average stock within a market capitalization–weighted index outperforms the index itself. With an improving economic backdrop driving a broadening of stock market participation from the narrow group of market leaders that dominated much of 2020, we expect 2021 will be a good year for active equity managers.
Last year, many active equity managers struggled. According to eVestment’s All Global Equity peer group, only 46% of active global equity managers outperformed their benchmarks (gross of fees) in the first three quarters of 2020. While the percentage of managers that outperformed improved in the fourth quarter, it still fell short of the 57% average achieved across the ten-year period ended 2019. However, through first quarter 2021, the percentage of managers outperforming has climbed to 53%.
A key to the performance of the average active manager is the average performance of individual stocks. Generally, the better the performance of the average stock—relative to the market capitalization–weighted average stock—the better the performance of the average active manager. That makes the performance of equal-weighted indexes versus their market capitalization–weighted counterparts a good proxy for active manager success. For instance, the MSCI World Equal-Weight Index underperformed the MSCI World Index by 828 basis points (bps) in the first three quarters of 2020. From October 2020 through March 2021, this reversed, with the equal-weighted index outperforming by 494 bps, signaling relief.
The shift in global managers’ fortunes appears to be most connected to what has been happening within the US equity market. In the ten-year period ended 2019, only 37% of active large-cap US equity managers outperformed the S&P 500 Index, according to eVestment’s US Large-Cap Equity peer group. That figure held relatively steady for the first three quarters of 2020, at 40%, but like the performance of global managers, it ticked up to 55% by first quarter 2021. That increase coincided with positive COVID-19 vaccine news and heightened expectations for economic stimulus. Both developments helped performance broaden across a variety of stocks, particularly as compared to last year’s narrow leadership by a small number of technology-related stocks.
Beyond the United States, we haven’t seen the number of active equity managers outperforming spike in recent months in the same way. Based on eVestment’s Non-US Diversified Equity peer group, 56% of managers outperformed the MSCI EAFE Index so far through first quarter of 2021, as compared to 78% for the ten-year period ended 2020. The same pattern holds for the performance of the average stock, with the equal-weighted and market capitalization–weighted MSCI EAFE Index performing likewise. The story is similar for active emerging markets equity managers. Their success rate has improved since dropping in 2020, but it still lags its long-term average. We suspect this is tied to the various lockdowns currently in place and the slower vaccine distribution. If non-US developed and emerging markets active managers follow the same pattern of relative performance improvement US managers have experienced, then there may be future gains in store for them as the economic situation normalizes.
Ultimately, while we acknowledge it is challenging for the average active manager to outperform (net of fees) over the very long term, the success rate varies based on the market environment over shorter time periods. Most of 2020 was a difficult environment for active managers to add value, with the average stock underperforming larger market-capitalization stocks. The broadening of economic and stock market participation has been a positive for managers in the United States during the last few months, and this could be a leading indicator of what is in store for strategies outside the United States. Active managers could be set up for a good year.