Greenwich Associates: Active Management Can Thrive in Certain Niches

Where some markets remain “complex, opaque and illiquid," active management can play a bigger role, Greenwich says.

It seems that active management is on the wane, with a recent report  from Moody’s Investors Service, for one, finding that passive investing through index funds and ETFs will be predominant in the US by 2024. Greenwich Associates, however, expects that active management still has a role in the future.

According to the Stamford, Conn., financial research firm, investors are moving their funds to passive avenues as a result of active managers’ not being able to outperform benchmark indices after accounting for manager fees. “These results have caused many industry pundits to conclude that some markets—particularly highly liquid markets like US equities— no longer provide sufficient opportunities for alpha generation. As such, they believe the best way to invest in these areas is through passive strategies that deliver market exposure at the lowest possible cost,” Greenwich reports .

And this move to active management is not tied to the economic cycle, but is more of a fundamental long-term trend. However, there remain some justifications for active management to continue to thrive. For instance: the overall growth in the money that institutional investors worldwide have available to invest. Also, not all markets are amenable to passive investment strategies. Some of them remain “complex, opaque and illiquid” and active management can play a bigger role here, Greenwich says.

Active managers can continue to deliver value by developing new strategies. And active managers can take advantage of “new distribution and client engagement models” to facilitate their client interactions, Greenwich says, nothing that although the profit margins for active management have been declining, they are still healthy compared to those for other industries.

Greenwich expects that not all active managers will be winners though, and the move to passive management will also pose a threat to some. Those who will emerge winners will have the advantage of working with clients in a complex area where they have some special insight or superior information. They could also help their clients with intricate challenges and add value in a way that justifies their cost.

Those who will not be successful will “stick to traditional, product-centric approaches.” For instance, there are a number of asset classes that are becoming more liquid but that institutional investors don’t see as offering much opportunity to generate excess returns in, on a risk-adjusted basis. These managers would be better served by developing ways to differentiate themselves or going for new products in other areas.

Morgan Stanley also expects that it’s too early to sound a death knell for active management. Lisa Shalett, Morgan Stanley’s head of investment and portfolio strategies, wealth management, blogs that while active managers have had a tough time in the past several years, as money flowed to passive management strategies following the financial crisis, it’s likely that better days are ahead. 

Shalett says, “We are in the early stages of a major regime shift, from monetary to fiscal policy; deflation to inflation; and low volatility to high volatility. History suggests that this is when active managers have the best potential to find mispriced securities and earn their keep.”

 By Poonkulali Thangavelu