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Canada Persistence Scorecard: Year-End 2019

U.S. Persistence Scorecard Year-End 2019

Australian Persistence Scorecard: Year-End 2019

SPIVA® Canada Scorecard Year-End 2019

Risk-Adjusted SPIVA® Scorecard: Year-End 2019

Canada Persistence Scorecard: Year-End 2019

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Berlinda Liu

Director, Global Research & Design

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Gaurav Sinha

Managing Director, Head of Americas Global Research & Design

Our widely followed SPIVA® Canada Scorecard repeatedly shows that most Canadian active managers underperform their benchmarks most of the time. However, if an active manager beats a benchmark, how do we know whether the result is a product of genuine skill or merely of good luck? Genuine skill is likely to persist, while luck is random and can soon dissipate.

The Persistence Scorecard attempts to distinguish luck from skill by measuring the consistency of active managers’ success. The inaugural Canada Persistence Scorecard shows that, regardless of asset class or style focus, few Canadian fund managers have consistently outperformed their peers.

For example, across all seven categories we track, none of the equity funds in their category's top quartile in 2015 maintained that status annually through 2019. If we consider funds in the top half of 2015's performance distribution, in six of the seven categories fewer than 5% of funds maintained their performance over the next four years. Coin flippers had higher odds of success.

Lengthening the horizon to consider performance over two consecutive five-year periods, the top-quartile domestic equity funds of 2010-2014 had little luck maintaining their top-quartile status during the 2015-2019 period. Only 30% of them managed to beat the median while 23% ended up in liquidation or had a style change.

The dismal persistence of performance across the past five years deserves a special note. Looking at Canadian Equity and Canadian Dividend & Income Equity funds, none of the top quartile funds of 2015 managed to make it into the top quartile for 2016. This may reflect the difficulty of market timing during extreme market swings: the S&P/TSX Composite Index was down 8.3% in 2015 before gaining 21.1% in 2016. As such, funds within a category that were more defensively positioned may have outperformed their peers in 2015, but did not pivot in time to make the most of 2016's gains.

The transition matrices evaluate performance over longer periods, and reinforce the idea that performance is inconsistent. The top half of Canadian Equity and Global Equity funds of 2014-2016 had a barely better than even chance (52%) of remaining in the top half over the 2017-2019 period. In the other five categories, the odds of remaining in the top half were below 50%.

Similarly, a five-year transition matrix showed every category clustering between a 40%-55% probability of top half funds remaining in the top half.

Unsurprisingly, the one pattern that did hold across categories was the tendency of the poorest funds to close. Fourth-quartile funds were generally the most likely to merge or liquidate over the subsequent three- and five-year windows, with 71% of Canadian Focused Equity and 54% of Canadian Equity bottom quartile funds in the 2010-2014 period disappearing by 2019.

Similar to the U.S. Persistence Scorecard, style changes did not appear to be correlated with fund performance. Top, middle, and bottom performers within a category all generally had similar chances of style drift over three- or five-year periods. Further calculation shows that, over a five-year period, Canadian Dividend & Income Equity funds had the highest percentage of style change (9%), with International Equity funds leading the way over a three-year period (5%).

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U.S. Persistence Scorecard Year-End 2019

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Berlinda Liu

Director, Global Research & Design

SUMMARY

When an active manager beats a benchmark, how can we judge whether the result is a product of genuine skill or merely of good luck? Genuine skill is likely to persist, while luck is random and soon dissipates. Therefore one key measure of active management skill is the consistency of a fund’s outperformance.

The Persistence Scorecard attempts to distinguish luck from skill by measuring the consistency of active managers’ success. This report shows that, regardless of asset class or style focus, few fund managers have consistently outperformed their peers.

For example, only 3.84% of domestic equity funds in the top half of the distribution in 2015 maintained that status annually through 2019, significantly below what random chance would predict. Similarly, just 0.18% of the 2015’s top-quartile domestic equity funds maintained that performance over the next four years, again below random chance.

Lengthening the horizon to consider performance over two consecutive five-year periods, Exhibit 1 shows that the top-quartile domestic equity funds of 2010-2014 had little luck maintaining their top-quartile status for the 2015-2019 period.  In fact, the most likely outcome for a top-quartile fund was liquidation or style change (39% together).

U.S. Persistence Scorecard Year-End 2019 - Exhibit 1

Compared with our previous reports, persistence appeared to improve over shorter investment horizons. Of the top-quartile domestic equity funds in 2017, 37.17% managed to stay in the top quartile annually through 2019.  However, this persistence was inconsistent and decayed over time. For example, 61.34% of 2017’s top-quartile domestic equity funds were ranked in the top quartile for 2018.  Rewinding the clock two years, just 3.38% of 2015’s top-quartile funds maintained that status in 2016.

There were few patterns to be found among equity funds’ performance, as the random distribution of fund performance over various time frames covered large-, mid-, small-, and multi-cap focused funds.  One notable observation came from small-cap funds in the three-year period, as just 1.67% of 2014-2016 top-quartile funds remained in the top quartile for 2017-2019.

Unsurprisingly, the one pattern that did hold across equity funds was the tendency of the poorest funds to close. Fourth-quartile funds were generally the most likely to merge or liquidate over the subsequent three- and five-year windows, with nearly 38% of the bottom-quartile multi-cap funds of 2010-2014 disappearing by 2019.

Perhaps more surprisingly, style changes did not appear to be correlated with fund performance.  Top, middle, and bottom performers within a category all generally had similar chances of style drift over three- or five-year periods.  Multi-cap funds had the highest percentage of style change, with 31% making a change over three years and 40% over five years.

Fixed income funds showed similar results to equities, with rare pockets of one-year persistence and little evidence for consistent annual outperformance over longer periods. In 10 of the 13 categories considered, no top-quartile funds from 2015 maintained that status annually through 2019.

Transition matrices showed slightly more evidence of fixed income fund persistence.  Over the three-year horizon, the most likely outcome for top-quartile funds in 11 of the 13 categories was to remain in the top quartile.  In 10 of the 13 categories, this outcome occurred for 50% or more of top-quartile funds.  Similar results existed over the five-year window.  However, in many fixed income fund categories, fewer than 20 funds qualified within each quartile, perhaps leading to small sample size effects.

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Australian Persistence Scorecard: Year-End 2019

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Priscilla Luk

Managing Director, Global Research & Design, APAC

EXECUTIVE SUMMARY

  • While comparing active funds against respective benchmark indices is a typical practice to evaluate their performance, persistence is an additional test that can reveal fund managers’ skills in different market environments.
  • In this report, we measure the performance persistence of active funds that outperformed their peers and benchmarks over consecutive three- and five-year periods, and we analyze their transition matrices over subsequent periods.
  • Overall results showed only a minority of high-performing Australian funds persisted in outperforming their respective benchmarks or consistently stayed in their respective top quartiles for three or five consecutive years.

  • Among top-quartile funds, 14.1% and 1.0% consistently maintained top-quartile rankings over consecutive three- and five-year periods, respectively. Top-quartile funds in the Australian Bonds category had the highest performance persistence among all categories.
  • The transition matrix, which tracks the trajectory of funds in each quartile, also showed that top-quartile funds in the Australian Bonds category had the highest persistence, with more than 75% of funds showing performance persistence over two non-overlapping three- and five-year periods.
  • Over three and five consecutive years, 15.8% and 1.3% of outperforming funds consistently beat their benchmarks, respectively. The Australian Equity Mid- and Small-Cap funds had the highest persistence over three consecutive years, but no fund category showed persistent outperformance over five consecutive years.
  • None of the fund categories exhibited strong performance persistence over the two successive five-year periods, but funds that outperformed in the first five-year period tended to have a lower liquidation rate in the subsequent five years across all categories.

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SPIVA® Canada Scorecard Year-End 2019

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Berlinda Liu

Director, Global Research & Design

SUMMARY

2019 was an excellent year across global equity markets, and Canadian equities were no exception.  Following a selloff in the fourth quarter of 2018, the S&P/TSX Composite rebounded 22.9% in 2019, posting positive returns in 10 of the 12 months.  Smaller-cap names in the S&P/TSX Completion gained 26.1%, outpacing the 21.9% return of the S&P/TSX 60.

The S&P/TSX Composite posted its highest annual return since 2009, capping a decade-long run that saw a total gain of 94.9%.  Amid this historic bull market, however, 92% of Canadian Equity funds underperformed their benchmark in 2019, and 86% underperformed over the decade.  This deficit was not an outlier, as a majority of funds underperformed across all categories for 2019.  Canadian Dividend & Income Equity managers fared the worst in 2019; only 2% of funds surpassed the S&P/TSX Canadian Dividend Aristocrats®.

SPIVA Canada Scorecard Year-End 2019 Exhibit 1

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Risk-Adjusted SPIVA® Scorecard: Year-End 2019

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Berlinda Liu

Director, Global Research & Design

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Gaurav Sinha

Managing Director, Head of Americas Global Research & Design

Modern Portfolio Theory tells us that higher returns tend to be associated with higher risk. While our SPIVA Scorecards typically show that active funds underperform their benchmarks in absolute returns, they do not address the claim that active funds may be superior to passive investment after adjusting for risk.

As an extension of the standard SPIVA Scorecard, the Risk-Adjusted SPIVA Scorecard assesses the risk-adjusted returns of actively managed funds against their benchmarks on both a net-of-fees and gross-of-fees basis. We consider volatility, calculated through the standard deviation of monthly returns, as a proxy for risk, and we use return/volatility ratios to evaluate performance.

In the past decade in U.S. equity markets, the S&P 500® gained 257%, with positive total returns in 9 of 10 years and 86 of 120 months. However, these steady tailwinds did little to boost the case for active fund managers. After adjusting for risk, the majority of actively managed domestic funds in all categories underperformed their benchmarks on a net-of-fees basis over mid- and long-term investment horizons.

The risk-adjusted performance of active funds obviously improves on a gross-of-fees basis, but even then, outperformance is scarce. Only Real Estate (over the 5- and 15-year periods), Large-Cap Value (over the 15-year period), and Mid-Cap Growth funds (over the 5-year period) saw a majority of active managers outperform their benchmarks. Overall, most active domestic equity managers in most categories underperformed their benchmarks, even on a gross-of-fees basis.

As in the U.S., the majority of international equity funds across all categories generated lower risk-adjusted returns than their benchmarks when using net-of-fees returns. On a gross-of-fees basis, only International Small-Cap funds outperformed on a risk-adjusted basis over the 10- and 15-year periods.

When using net-of-fees risk-adjusted returns, the majority of actively managed fixed income funds in most categories underperformed over all three investment horizons. The exceptions were Government Long, Investment Grade Long, and Loan Participation funds (over the 5- and 10-year periods), as well as Investment Grade Short funds (over the 5-year period).

However, unlike their equity counterparts, most fixed income funds outperformed their respective benchmarks gross of fees. This highlights the critical role of fees in fixed income fund performance. In general, more active fixed income managers underperformed over the long term (15 years) than over the intermediate term (5 years).

On a net-of-fee basis, asset-weighted return/volatility ratios for active portfolios were higher than the corresponding equal-weighted ratios, indicating that larger firms have taken on better-compensated risk than smaller ones. On an equal-weighted measure, all domestic equity categories underperformed over all investment horizons, except for Real Estate Funds over the five-year horizon.

However, on an asset-weighted measure, over the five-year period, Real Estate, All Mid-Cap, All Small-Cap, Mid-Cap Growth, and Small-Cap Growth funds outperformed their benchmarks. Large-Cap Value funds was the only category that generated higher asset-weighted return/volatility ratios than the benchmark over the 15-year period.

Most fund categories produced higher return/volatility ratios than their benchmarks, gross of fees, on an equal-weighted basis. However, their outperformance diminished once fees or fund size were accounted for, especially in domestic and international equity funds. In general, equal-weighted return/volatility ratios improved more than the corresponding asset-weighted ratios when fees were ignored, indicating that fees play a more prominent role in smaller funds’ performance.

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