How active is your fund manager, and what chance do they really have of beating the market?
These questions are linked. A crude measure of how much fund managers deviate from their benchmark can help predict which funds will outperform. That measure is “active share” – the percentage of a fund’s portfolio that differs from its benchmark. Thus a well-managed index fund will have an active share of 0 and an esoteric fund that holds no stocks in its index has an active share of 100.
The concept was popularised by academics Martijn Cremers and Antti Petajisto, who made two important discoveries. First, “closet indexing”, where funds limit the risk of underperformance by clinging to the index, is rife in the US. Second, the higher a fund’s active share, the stronger its chance of beating its benchmark.
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