Sharath Sury, executive director of the Institute for Financial Innovation & Risk Management research think-tank and an adjunct Professor of Economics at the University of California, Santa Cruz, last week presented new data at the Investment Education Symposium in New Orleans indicating that a majority of long-only equity managers and fixed income managers, as well as hedge funds and hedge fund of funds, have significant broad market exposure that are already available in much more cost and tax efficient index funds.
In many cases, active management fees are not translating into value above and beyond what a simple combination of index funds may provide, according to Sury. Indexed investment fees are a fraction of the cost of actively managed funds, often ranging from one tenth of one percent (0.1%) to one half of one percent (.5%). In comparison, hedge funds typically charge a much higher fee (sometimes as much as 2-3% of assets under management plus an additional 20% of any positive performance).
"We have known for some time that investment managers tend to closely match their benchmark indexes," Sury said. "What is surprising is that many hedge funds—and hedge fund of funds—are exhibiting similar patterns with high correlations to simple indexed investments."
However, He added that: "In our study, some managers did indeed exhibit high, consistent skill and value. The trick is to weed out those who do not."
In 2006 Sury introduced a new measure dubbed the Alpha Cost Index that adjusted product fees to account for the level of alpha delivered. The ACI aimed to level the playing field by penalizing products that charge active management fees but delivered the preponderance of their returns from beta exposures; thus serving as a useful ranking tool for due diligence.
Hung Tran writes for Money Management Executive.