While active U.S. large‑cap strategies have generally underperformed their passive counterparts over the past ten years, active strategies consistently outperformed their passive counterparts for most of the preceding decade. This, of course, begs the question, which is better: active or passive?
While many have argued that both modes of management have their place in an investor’s portfolio, a argues that the current economic environment bodes well for active management.
“We believe that the challenging market environment currently marks an inflection point as financial markets transition to a new paradigm,” wrote Josh Nelson, head of U.S. equity for T. Rowe Price. “However, this is an environment that augurs well for active managers.”
Nelson noted that the current backdrop of “high inflation, rising interest rates, stimulus withdrawal, weaker growth” is creating uncertainty after a decade of low inflation, low interest rates, low market volatility, and steady growth. This, in turn, is leading to increased market volatility.
But while there are several headwinds to contend with, T. Rowe argues that the current market presents many favorable dynamics for active management.
For example, capital allocation is increasingly driven by company fundamentals rather than macro factors, which have historically provided heightened opportunities for quality stock pickers.
The paper also shows that while active U.S. managers have historically captured less upside than passive managers in rising markets (-24 basis points), they more than makeup for this by the relative outperformance active managers achieved in down markets (+38 bps). This is not to say that active managers can’t also outperform passive counterparts in rising markets (they can and regularly do.)
“This kind of landscape has historically provided rich opportunities for skilled active investors as company‑specific factors should reassert themselves—and getting investment decisions right matters more,” Nelson wrote.
While passive strategies lack the flexibility to adapt to changing market environments, active ETFs can offer the potential to outperform benchmarks and indexes. Plus, active managers with greater resources and greater scope benefit from economies of scale, which can often translate to better returns.
“Active managers have the flexibility to take advantage of market volatility and add to favored positions when prices become more attractive,” said Todd Rosenbluth, head of research at VettaFi.
T. Rowe Price has been in the investing business for over 80 years through conducting field research firsthand with companies, utilizing risk management, and employing a bevy of experienced portfolio managers carrying an average of 22 years of experience.
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