Can You Really Find a “Best-In-Class” Manager to Provide You with Superior Returns?

Many investors believe that if they can find an investment manager who, based on their past performance, has demonstrated an ability to beat the market, they will continue to do so by offering superior returns in the future.

Three finance professors have completed a detailed study of institutional managers who invest for public and private retirement plans, endowments, foundations and unions. Their results indicate that as a group these managers provide little evidence of superior skill or performance.

This is a significant finding because some have argued that institutional money managers usually take long-term views of the markets, and therefore, don’t make sudden or risky moves.

In a paper slated for publication in The Journal of Finance, professors Busse, Goyal and Wahal looked at more than 4,600 institutional investment funds run by more than 1,400 management firms from 1991 through 2008. Their conclusions:

  • “We find little evidence of superior performance, either in aggregate or on average.”
  • “One logical conclusion might be that plan sponsors should engage in entirely passive asset management.”

In another studied completed by Dimensional Fund Advisors, 192 corporate pension plans were ranked based on their performance from 1988 to 2005. When compared to the performance of a hypothetical balanced index strategy holding 60% large cap stocks (represented by the S&P 500 Index) and 40% intermediate U.S. government and corporate bonds (represented by the Lehman Intermediate Government/Credit Bond Index), two thirds of these pension plans underperformed the hypothetical index returns.

These pension plans represent some of the largest and most prestigious U.S. corporations. Such companies tend to hire investment managers who are striving to beat the market. Yet, as a group, most of the plans underperformed a basic passive 60/40 indexed strategy.

The evidence is strong. Keep your costs low and your diversification high. Use a passive investment strategy of index and asset-class funds to seek competitive long term investment returns.

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