Confusing Alpha, Beta And Weird Metaphors

What is it recently with baths and showers and water-based metaphors from active managers?

“I love alpha. I love talking about alpha. I love immersing myself in it; it is eminently discoverable,” said Jake Moeller, head of UK and Ireland research at data house Lipper.

His presentation at the Fund Selectors Forum last week on the sales and distribution of active and passive funds in the UK included Moeller saying he could “take baths” in alpha.

But the numbers speak for themselves. Lipper data showed that only 59 percent of UK actively managed equity funds came above the top-ranked passive tracker fund over three years, and 55 percent reached the same level over five years. For European equities, the numbers were 51 percent and 65 percent respectively. This analysis stripped out the FTSE 250 tracker and any active funds with the same benchmark.

Hardly Quenching My Thirst…

According to these numbers, I can hardly take baths of alpha. Continuing Moeller’s train of thought, I’d more likely feel a faint moisture. The kind of bath which is gloriously hot and bubbly for about ten minutes, but quickly leaves you feeling shivery and exposed. Only half of UK equity funds beat an index tracker over five years?

Not to pick on Moeller, but this pro-active campaign is hardly a surprise considering he used to be an active fund manager. As head of research, and speaking to an audience of potential investors, I had to question whether his waxing lyrical about active management was entirely objective.

"I don't have any antipathy towards passive investment," he told me. "My view is there are some genuinely benchmark sensitive investors, but a lot of this debate gets lost in the whole "active managers can't outperform" argument. I don't say they outperform indefinitely, but they require more work. If you don't want to pay or do research, a passive fund is more appropriate. The price of alpha is eternal vigilence."

Looking at separate data from the Europe S&P Indices Versus Active Funds (SPIVA) scorecard, the year-end 2014 results show that over half – 55 percent – of actively managed, sterling denominated funds invested in the UK equity market underperformed the S&P UK BMI last year. A staggering 72 percent of UK small-caps funds lagged the benchmark. Large-cap and mid-cap funds had a little respite with “only” 42 percent trailing behind the index. The numbers get worse for emerging markets and the U.S.

Moeller said at the event last week that “active funds are being trolled” by particularly “vocal analysts”, commenting online that active funds on average fail to outperform over longer time periods (see above). It is in some ways a tired argument, but one that still resonates with investors.

Why, Bill Gross, Why?

Meanwhile, the confident eccentricities of active managers and their watery metaphors continue: the legend Bill Gross, who has such a loyal investor base that he was handed his old fund back after he switched firms due to massive outflows, also likes to spice up his market and investment commentary.

Take one of his latest notes on 30 June, in which he sings the praises of his shower room, the view, and works it into a water-based theme with the drought in California.

“So we built a shower with a window – not a picture window – but one big enough for a view. As is customary with a new home, I carried Sue over the threshold on the first day we moved in. But once the workers had cleared out, we headed straight for the shower. “Champagne?” she asked. “Nah”, I said romantically. “Just wanna look at the view.””

In this 1,700 word blog, Gross is speaking about the markets’ focus on the absence of liquidity and the “effect it might have on future market prices”. It just took around 600 words to get there.

My point is let’s stop getting soaked in nonsense. Rather than taking baths in alpha, or showers of liquidity, we are actually scraping the barrel with only half of UK equity funds beating beta trackers over the medium term, and blindly following star active managers from house to house. Something fishy is definitely going on here.

I love passive funds. I love talking about passive funds – clearly. I want to head straight for my shower of beta and let it rain down, luminous, and effervescent, throwing my eternal vigilence to the wind.