Active U.S. Equity Funds Beat Passive Counterparts

Below are some comments from Gerry Frigon, Chief Investment Officer at Taylor Frigon Capital Management, following the news yesterday that active U.S. equity funds beat passive counterparts for the first time in five years. Gerry strongly believes that ETFs and passive investing are bad for investors, which is why we’re seeing a shift back to active investing:

Active U.S. Equity Funds

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Q4 hedge fund letters, conference, scoops etc

  • We believe that ETFs pose a potential threat to investors and to the efficiency of the market mechanism, and ultimately to true price discovery.
  • They replace an investor’s ownership of securities issued by a business with a synthetic vehicle linked to securities by a process of financial engineering.
  • This distancing of the investor from the portfolio of securities that the ETF is supposed to be tracking lowers the perceived need to scrutinize the securities in the underlying portfolio: in other words, it breeds complacency on the part of the typical investor in the ETF.
  • Even an unsophisticated and relatively uninformed investor in an individual stock, for instance, acknowledges that someone should be performing careful analysis on that stock: with an ETF, many investors seem to believe (mistakenly, in our opinion) that careful ongoing analysis of the underlying securities and the companies that issue those securities is less necessary, or even entirely irrelevant.
  • There have been attempts to create "active ETFs" which track a portfolio of securities selected by a manager rather than an index or market segment – but even after several years these have less than 1% of all ETF assets, and the majority of them own securities other than stocks.
  • We suspect that many active managers would prefer to manage portfolios in which the trading is not driven primarily by arbitrage activities.
  • Because arbitrage by its very nature requires liquidity (in more ways than one), a temporary liquidity shortage could lead to the price of the ETF decoupling from the portfolio of securities it is supposed to be tracking.




About the Author

Jacob Wolinsky
Jacob Wolinsky is the founder of ValueWalk.com, a popular value investing and hedge fund focused investment website. Prior to ValueWalk, Jacob was VP of Business Development at SumZero. Prior to SumZero, Jacob worked as an equity analyst first at a micro-cap focused private equity firm, followed by a stint at a smid cap focused research shop. Jacob lives with his wife and three kids in Passaic NJ. - Email: jacob(at)valuewalk.com - Twitter username: JacobWolinsky - Full Disclosure: I do not purchase any equities to avoid even the appearance of a conflict of interest and because at times I may receive grey areas of insider information. I have a few existing holdings from years ago, but I have sold off most of the equities and now only purchase mutual funds and some ETFs. I also own 2.5 grams of Gold