As passive management soars in the U.S., does it make sense for Canadian stocks?
BY Martha Porado | May 23, 2019
Passively managed domestic equity funds have essentially equalled their active counterparts in assets under management in the U.S., according to new data from Morningstar.
At roughly US$4.3 trillion each, passive U.S. equity funds drew in US$39 billion in April, whereas active funds saw a US$22 billion outflow. While not at exact parity, with passive funds being US$6 billion shy of actives as of April 30, 2019, Morningstar noted its expectation that inflows during May will close the gap officially.
North of the border, how is the passive versus active split playing out?
In 2018, passively-managed long term Canadian equity funds saw their market share rise from 10.0 per cent to 10.5 per cent, according to a report from PWL Capital. Notably, this represents a doubling of Canadian passive funds’ marketshare since 2007, which then sat at 4.8 per cent.
Of note, in the universe PWL uses in its report, passive U.S. market share is still growing, but sits at 37 per cent, compared with 63 per cent for active funds.
There is the perception that active management still has the potential to add value where Canadian equities are concerned, says Benoit Labrosse, vice-president of asset and risk management at Morneau Shepell Ltd. That’s true in a way here that isn’t the case in the U.S., he says.
“It’s extremely hard in the U.S. to add value over the U.S. equity benchmark,” says Labrosse. “If you look at it from the perspective that most managers, so more than 50 per cent, are actually, net of fees, falling below the benchmark, at least from a U.S. equity perspective.
“When we consult with clients, we typically say, ‘why don’t you choose active management where the markets are not necessarily fully efficient?’ U.S. equity is not one of those classes where we think a manager can add a whole lot of value. So, we would typically recommend to go passive for U.S. equity and save some actively managed strategies for some other aspects of the client’s portfolio.”
However, when markets get rockier, as they have been over the past few months, active managers tend to speak up about the value they can add when markets become less efficient and more volatile. Labrosse says this narrative has some validity in the active manager’s ability to provide downside protection. “There are many schools of thought with respect to actively managed strategies. So some managers will certainly tend to protect those downside periods or results. So instead of losing five per cent in quarter, they will lose, say, three per cent. So they are more defensive, if you wish, than others.”
The move towards passive is also correlating with pressure on management fees, he notes, although he’s not sure whether it’s pushing investors toward passive strategies to any significant degree. “Whether it’s an actively managed fund or passively managed, it seems to me that there is more and more pressure related to fees that managers in general are charging.”