The Latest Morningstar Barometer Report is Out - What is the Key Takeaway?

In its latest semiannual report, the Morningstar Active/Passive Barometer revealed a slight uptick in the short-term success rates of active fund managers as measured against the performance of passive funds. While that could indicate a reversal of a long-term trend in which the performance of active fund managers has been losing ground against their passive fund counterparts, Morningstar analysts are quick to point out that one uptick does not make a trend. In fact, in the report, Morningstar doubled-down on its findings from earlier reports that “Picking good active managers is hard and keeping costs low is paramount.”


What Exactly is the Morningstar Barometer?


The Morningstar Barometer is an objective analysis that compiles all of the performance data on actively managed mutual funds and compares it to a composite made up of relevant passive index funds, including exchange-traded funds (ETFs) and reports the results twice a year. Since the inception of the report, Morningstar has found that, as a whole, actively managed funds underperform their passive counterparts, especially over longer term time horizons. Over a 10-year period, equity passive funds generated an average 0.65% greater annual return than active funds. Morningstar attributes much of the underperformance to the higher fees charged by active funds.


What Does it Tell Us About the Success Rate of Active Managers?


The current report does show a marked year-over-year improvement in active fund success rates in several categories. However, as Morningstar points out, much of the improvement was achieved through fund managers scurrying to take advantage of temporary conditions that may or may not repeat themselves. Some also had to step outside their investment style boxes to grab returns where they could find them. Of course, investors paid handsomely for the extra maneuvering with higher management fees. As the Active/Passive Barometer has clearly shown in the past, a relatively small number of “successful” active managers are able to repeat a strong performance.


What is the Key Takeaway from the Report?


The key takeaway for international investors is that fees matter. According to Morningstar, the average expense ratio for active funds is 0.79%, nearly four times the average cost for passive funds, which is 0.20%. Expense ratios on active funds can run as high a 3.0%, while on passive funds they can be as low as 0.05%. 


While a one point difference in fees may not seem like a lot, consider the performance of $100,000 invested over a 30-year period. Assuming a 6.5% annualized return, this is how much is accumulated based on the percentage charged each year:


1% fee


2% fee


3% fee



That’s a difference of nearly $220,000, which is lost to investment fees.


Morningstar presents its Active/Passive Barometer as a starting point for investors to use in assessing their odds of selecting a winner when choosing among active fund managers. As it has shown since it first publishing the report, when investors focus on fees – the lower the better – they improve their chances of selecting a manager that can beat their passive rivals.


Optimizing Your Portfolio with Passive Funds


Today, there are thousands of low cost, passively managed index funds and ETFs covering nearly every conceivable market index or class of stocks. While keeping investment costs to a minimum, it is now possible for any investor to create a well-diversified portfolio with an optimum asset allocation for their particular risk-return profile. Although it is not exactly rocket science, structuring an optimum asset allocation utilizing the vast universe of passive funds, does require a certain level of expertise in portfolio management with the ability to select the right mix of funds to meet your return objectives. If you have to pay an extra half a point to someone, it should be the portfolio manager who is investing with your best interests in mind.




Vitali Butbaev