It is almost impossible to find
winning mutual fund managers
Investors have long been seeking winning investment managers to handle their money. Nowhere has the competition been more intense than among the thousands of mutual funds that compete for attention.
It has always been assumed that some mutual fund managers beat the market due to their investment skills; indeed, if you read mutual fund ads, most of them claim to be in this group.
Several studies have shown that at least a minority of fund managers may beat the market through skill, rather than luck. But a yet-to-be-released study making its way through academia claims to show that no one is beating the market due to skill these days.
More losers
Although there used to be a small subset of truly skilled mutual fund managers, their ranks have shrunk to virtually nothing in recent years, the study concluded.
Worse, there are now more unskilled managers who turn in results consistently worse than the market.
The study, by three finance professors who teach in London, Geneva, and Maryland, uses a statistical test not previously applied to investment managers to weed out findings of false positives—managers who appear skillful but are really only lucky—and false negatives—those who appear to have no skills but whose results are also determined by bad luck.
Winners’ ranks thin 
They looked at the 2,076 mutual funds that invested in U.S. stocks between 1975 and 2006.
During the years before 1995, their tests showed that 14.4 percent of the managers demonstrated investment skill that led to higher returns. But after that year the number of skilled managers declined to just 0.6 percent.
“Although the number of actively managed funds has dramatically increased, skilled managers (those capable of picking stocks well enough to overcome their trading costs and expenses) have become increasingly rare,” the professors wrote.
Meanwhile, the number of managers who were unskilled increased to 24 percent by 2006 from 9.2 percent in 1975.
Part of the problem may be the expense of operating an actively-managed mutual fund, the study found.
About three-quarters of fund managers are competent enough to beat the market by just enough to cover their fund costs, meaning that investors get no benefit from active management since their fund just equaled the markets.
The study found “a persistent level of expenses that exceed(ed) the value generated by these managers.” The problem for fund managers is that they have little control over the expenses of their funds, which are set by management, the study said.
“Thus, almost all outperforming funds appear to capture (or waste through operational inefficiencies) the entire surplus created by their portfolio managers,” the study said.
The study’s authors said they were puzzled as to why “investors seem to increasingly tolerate the existence of a large minority of funds that produce negative” results.
One reason may be that some investors are constrained by the limits on investment choice in their 401k plans.
In any event, it seems that it is a lot easier for a rational investor to use an index fund than to try to pick a winning fund manager.