How well do most Australian fund managers & U.S brokers serve their clients?

Every six months, international credit rating agency Standard & Poor’s (S&P) publishes a report detailing what percentage of fund managers outperform their benchmark over time periods up to 5 years.  We have been sharing these results with clients for some time, but the latest S&P report for the period ending 31 December 2010 received widespread media attention.

The results were not good. The table below details what percentage of all fund managers underperformed their benchmark over the 5 years to 31 December 2010 and the rolling average of all S&P reports published since 30 June 2008:

Fund Category

5 years to
31 Dec 2010

Average of all S&P reports

Australian Equity Funds – General



International Equity Funds – General



Australian Bond Funds



Australian Property Trust Funds



The widely publicised notion in some sectors of the media that active (forecasting) managers who stock pick and market time do better when financial markets are volatile is simply not supported by the actual results.  The Sydney Morning Herald[1] noted that investors pay on average 1.9% pa to invest in actively managed retail funds.  In comparison, the average investment management cost for implementing our Australian equity strategy is 0.37% pa.

S&P found that the S&P 200 Accumulation Index returned 4.32% pa over the 5 years to 31 December 2010, whilst the average Australian share fund returned just 3.75% pa. In comparison, our asset class strategy returned 6.19% pa after fees for the same period.  This resulted in our client portfolios being worth 9% more at the end of the period compared to the market and 12% more than the average fund manager.

It is important to remember that we are looking at a five year period only, as that is as much data as S&P provides.  Most investors have investment time horizons spanning far beyond five years, and unfortunately, the likelihood is that the percentages will only increase over time.

Financial information group Bloomberg[2] also recently carried out analysis of U.S broker recommendations for stocks included in the S&P 500 index, which tracks the largest 500 listed companies in the U.S.  The analysis was over the period March 2009 to early 2011, which may be only two years in duration, but significant because:

  • Most brokers ‘value proposition’ is in making 12 month price forecasts and then trading clients into the next ‘big thing’, so the time period is meaningful; and
  • Brokers claim to deliver the most value in the type of volatile markets that have prevailed over the past several years, i.e. selling shares before they markets fall and of course buying them before markets rise.

The Bloomberg report found that the companies the brokers recommended most highly rose by 73% on average during the period.  This sounds like a strong result until you realise the actual performance of the S&P 500 index over the same period was:

Stocks with most ‘Buy’ recommendations (average return)


S&P 500 Index


Stocks with fewest ‘Buy’ recommendations (average return)


As the table shows, the stocks with the most ‘Buy’ recommendations underperformed the index over the period.

Of even greater interest is the performance of the companies which attracted fewest buy recommendations from brokers – this group rose by 165% on average over the period, which was more than twice the return of the highly rated stocks.

This performance made us recall the comments of an Australian analyst a few years ago who covered the tourism industry.  The analyst was asked to reflect on the performance of his stock recommendations over the previous 12 months.  Overall he didn’t do too badly, with a couple of exceptions.

First, his buy recommendation on a resort in Australia’s snowfields came awry when it failed to snow that season. Second, his buy recommendation for a Thai resort resulted in losses when that country experienced a military coup. “But that’s OK,” he replied. “I couldn’t have foreseen those events.”

This is the problem with the future. No matter how much analysis you do, it doesn’t often work out like you think it will. For instance, analysts in the Bloomberg survey made a big call in favour of healthcare stocks based on the expectation that the Obama administration’s healthcare reforms would not pass into legislation. As it turned out, the legislation did pass and healthcare was the worst performing of the 10 economic sectors in the S&P 500 last year.

The question that arises is, if the crème de la crème of the stock pickers and many traditional active managers —the professionals who are paid to analyse companies in mind-numbing detail— invariably contradict each other and in general are so inaccurate, what does that say about the chances of anyone being able to outperform the market based on individual stock research?

Although we do evaluate new investment processes, and for some clients include direct securities in their portfolio, the evidence shows that to date our investment approach and philosophy has resulted in reducing risk and enhancing returns for our clients with a high level of diversification relative to most managers and investors.

Please refer to our Quarterly Performance Reporting for further information on investment market returns to 31 March 2011.

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[1] SMH, Weekend Money, Annette Sampson, 19 March 2011

[2] Equity Analysts Prove Hazardous to Returns as Contrarian Stocks Rise 165%’, Matt Walcoff and Lynn Thomasson, Bloomberg, 10 January 2011

Note: This material is provided for information only. No account has been taken of the objectives, financial situation or needs of any particular person or entity. Accordingly, to the extent that this material may constitute general financial product advice, investors should, before acting on the advice, consider the appropriateness of the advice, having regard to the investor’s objectives, financial situation and needs. This is not