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By Christine Benz | 03-05-2010 03:16 PM

What the Data Say on Active vs. Passive Funds

Morningstar's John Rekenthaler on the percent of active managers who have outperformed, if active is really better in some categories, and the strongest predictors of success.

Christine Benz: Hi, I'm Christine Benz from Morningstar And I'm here today with John Rekenthaler. He's vice-president of research for Morningstar. John, thanks for being here.

John Rekenthaler: Any time, Christine.

Benz: You just presented some great information on what we do know about mutual funds. And one of the things you talked about was index versus active. This is probably the debate in the field of mutual funds. What did the data tell us about whether you're better off going with an actively managed fund or going with a passively managed vehicle?

Rekenthaler: Well, in aggregate, when you look at funds, what you find is that, before fees, the typical fund and the typical fund manager pretty much matches up with the index that most closely is related, or matches, with the fund. That's true for domestic stock funds, international funds, fixed income, and so forth.

Benz: So when you look at these categories in aggregate versus their respective indexes...

Rekenthaler: In aggregate. It's not the portfolio managers are inferior. It's not that they're superior. In fact, maybe a little bit, in a way, you could say they're superior, because there's some trading costs associated with them and they're able to overcome the trading costs by matching the returns of the index.

What they're not able to overcome, in the aggregate, are the underlying expense ratios. So about two-thirds of fund managers will underperform over a long period of time. And that's really just due to the expense ratio. It's not due to failure to execute. Again, I'm always talking about the aggregate numbers, right?

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