Do Actively Managed Small-Cap Funds Add Value?
March 23, 2016
by Larry Swedroe
Quant ESG With PanAgora Asset Management’s George Mussalli
ValueWalk's Raul Panganiban interviews George Mussalli, Chief Investment Officer and Head of Equity Research at PanAgora Asset Management. In this epispode, they discuss quant ESG as well as PanAgora’s unique approach to it. The following is a computer generated transcript and may contain some errors. Q3 2020 hedge fund letters, conferences and more Interview . Read More
Active managers often contend that the market for small-cap stocks is less informationally efficient, thus allowing them to uncover mispriced securities and generate alpha. I will evaluate whether that claim is true.
This article will cover domestic funds; in my next installment, I will analyze international funds.
To begin my evaluation, I have chosen to analyze the performance of the 10 small-cap funds with the largest amount of assets under management (AUM) at the end of 2015. This keeps the list to a manageable number of funds. Later on, I’ll take a look at the full universe of active funds with a 15-year track record.
To ensure that I examine long-term results through full economic cycles, I’ll analyze the performance for funds over the 15-year period ending December 31, 2015. Furthermore, when there is more than one share class of fund available, I will use the lowest-cost shares obtainable for the entire period.
Before reviewing the results, it’s important to note that this methodology creates a substantial bias in the data. I am considering only funds that survived the full period, and about 7% of all mutual funds disappear each year. Second, a fund that has outperformed its benchmark will have its AUM benefit from that strong performance. It will also then benefit from the investor cash inflows, which tend to follow strong performance. Thus, the funds with the strongest past returns will tend to be the largest.
This doesn’t mean, however, that investors actually earned the same return as the funds’ full-period results since they may not have been invested over the full term. Thus, the results are not truly reflective of what investors in these actively managed funds actually earned; they are biased upward. We should expect the funds with the most AUM to have outperformed (though their large asset size may hinder future performance).
As a result, the real question I will answer is the following: If investors were smart, or lucky, enough to identify these 10 stellar performers ahead of time, by how much did they benefit from utilizing them versus passive alternatives?
Keeping the aforementioned bias in mind, the table below shows the performance data for the 10 largest actively managed small-cap funds as of year-end 2015. As is my practice, I’ll then compare the returns of these funds to the returns earned by comparable offerings (based on the Morningstar style categorization) from the leading provider of index funds, Vanguard, and a leading provider of passively managed structured asset class funds, Dimensional Fund Advisors (DFA). (Full disclosure: My firm, Buckingham, recommends DFA funds in constructing client portfolios). The returns data covers the 15-year period ending December 2015.
Actively managed small-cap funds
|Fund||Symbol||Expense Ratio (%)||Annualized Return (%)|
|T. Rowe Price New Horizons||PRNHX||0.79||9.5|
|Neuberger Berman Genesis||NBGIX||0.85||10.3|
|T. Rowe Price Small-Cap||OTCFX||0.91||8.8|
|Eagle Small Cap Growth A||HRSCX||1.10||8.6|
|Vanguard Small Cap Growth Index||VISGX||0.23||7.9|
|Fidelity Small Cap Discovery||FSCRX||1.06||10.3|
|Goldman Sachs Small Cap Value||GSSIX||0.94||10.3|
|Vanguard Small Cap Index||VSCIX||0.08||8.4|
|DFA Small Cap||DFSTX||0.37||9.0|
|American Beacon Small Cap Value||AVFIX||0.81||10.7|
|AllianzGI NFJ Small-Cap Value||PVADX||1.04||10.2|
|Undiscovered Managers Behavioral Value||UBVLX||1.11||10.7|
|Vanguard Small Value||VSIIX||0.08||8.9|
|DFA U.S. Small Cap Value||DFSVX||0.52||10.4|
The following is a summary of the results:
- Relative to the Vanguard index fund benchmark, just one of the 10 largest actively managed small-cap funds underperformed. Interestingly, the underperformer was Vanguard’s own active fund. When equal-weighting the three fund categories, the average active fund outperformance was 1.5%.
- Relative to DFA’s structured portfolios, four of the five largest actively managed small-cap funds outperformed. When equal-weighting the two fund categories for which there were comparable funds, the average active fund outperformance was 0.7%.