Despite the surging popularity of passive investment strategies like exchange-traded funds (ETFs), active fund managers focusing on Australian small and mid-cap stocks are consistently outperforming. Fresh analysis from Morningstar reveals that these active managers have surpassed passive strategies by 1.8 percentage points over three years, 2.2 percentage points over five years, and a notable 3.3 percentage points over the past decade. In fact, around 95 per cent of small to mid-cap managers have beaten index-tracking strategies when measured over the long 10-year period.
According to Morningstar, the success of active managers in this sector stems from a relative lack of in-depth investment research and analysis of smaller companies. Luke McMillan, head of research at Ophir Asset Management, suggests that diligent analysts can more easily identify mispriced companies and accurately assess their performance relative to the broader market. This advantage allows fund managers to spot businesses poised for rapid growth, particularly when compared to investments tied to the S&P/ASX 200 Index, which is heavily weighted towards banks and mining companies.
While passive funds tracking the S&P/ASX Small Ordinaries Index must hold around 180 stocks from the bottom 200 companies in the ASX 300, active managers typically maintain more concentrated portfolios of 30 to 40 stocks. This allows greater potential returns compared to a widely diversified index. Despite charging higher fees than passive funds, active strategies consistently outperform over the long term.
However, Morningstar also notes that the survivorship rate for small and mid-cap managers has declined, potentially diminishing the likelihood of investors realising long-term return advantages. K2 Asset Management is a fund manager which delivers differentiated investment solutions across asset classes to both institutional and retail clients. Global X reported that the Australian ETF market alone saw assets soar to $321.7 billion in October, which indicates a $12.4 billion increase over the month and 38 per cent jump over the past year.
