Active ETFs have become increasingly popular over the past few years, growing from just over $100 billion in 2019 assets to more than $300 billion in 2021, according to the NYSE. Meanwhile, active ETF launches continue to outpace passive ETFs as conventional actively managed mutual funds create ETF versions of their funds.
Despite their growing popularity, 16 of the 18 categories tracking U.S. equity funds underperformed their benchmarks, including 98.6% of large-cap growth funds in 2021, according to the SPIVA Scorecard. The good news is that there are some diamonds in the rough, and the bear market could improve the outlook for active managers in 2022 and 2023.
Let’s take a closer look at some of the best-performing funds in past years, along with the factors driving outperformance in 2022 and beyond.
See our Active ETFs Channel to learn more about this investment vehicle and its suitability for your portfolio.
History's Best Performers
The SPIVA Scorecard has become the de facto scorekeeper for the active versus passive debate since its first publication in 2002. In addition to correcting for survivorship bias and choosing the right benchmarks, the organization uses asset-weighted and risk-adjusted returns to ensure clean and consistent performance data over time.
The data clearly shows that active funds tend to underperform their passive benchmarks. However, several categories featured active funds outperforming their benchmarks in recent years, including:
- Large-Cap Value Funds
- International Small-Cap Funds
- Investment-Grade Short Funds
- U.S. Real Estate Funds
There are several potential reasons for the outperformance in these areas. For example, value indexes typically factor in book value, earnings and sales ratios but are weighted by market capitalization. On the other hand, actively managed funds can weight components by their valuation, assigning more weight to more undervalued opportunities.
Today's Best Opportunities
Active ETFs have outperformed their passive peers during the recent stock market sell-off. After a notoriously long bull market, pricing inefficiencies between sectors and stocks created an optimal environment for active managers. The best performers have been in the value and core stock segments across companies of all sizes.
In addition to the equity markets, active managers have a distinct advantage during rising interest rate environments. While passive funds maintained their bond portfolios, active managers could shift assets to lower duration bonds, helping to mitigate interest rate risk. Others moved into convertible bonds or other vehicles to reduce risk.
Some active ETFs also operate in corners of the market where more opportunity exists. The most obvious examples include those targeting the rising energy and commodity markets. For instance, the ProShares K-1 Free Crude Oil Strategy ETF (OILK) is a top-performing fund with a nearly 38% return since January – outpacing almost every other fund.
And, finally, some active ETFs target unique strategies to help mitigate downside risk. For instance, the Leatherback Long/Short Alternative Yield ETF (LBAY) has used a long/short position and yield optimization strategy to deliver nearly 11% return since January, resulting in a hefty 2.75% yield. These funds can help investors achieve outcomes better than a market-cap-weighted index.
The Bottom Line
Active ETFs have become increasingly popular but don’t always beat their passive benchmarks. While a handful of categories are exceptions, the current bear market could yield many more opportunities for active managers. As a result, investors may want to reconsider some of their holdings to take advantage of better manager discretion.
Take a look at our recently launched Model Portfolios to see how you can rebalance your portfolio.
