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SPIVA® Through a Risk-Adjusted Lens How do active managers stack up to passive on a risk-adjusted basis?
BY Aye Soe

EXECUTIVE SUMMARY


• Modern portfolio theory (MPT) states that expectations of returns must be accompanied by risk or variation around the expected return. It assumes that higher risk should be compensated, on average, by higher returns.


• Beyond relative performance of funds, market participants are also interested in the risks taken to achieve those returns. This motivated us to examine the performance of actively managed funds on a risk-adjusted basis.


• Critiques of passive investing often argue that indices are not risk managed, unlike active management. Therefore, our study aims to understand whether actively managed funds are able to generate higher risk-adjusted returns than their corresponding benchmarks.


• We used the standard deviation of monthly returns, over a given period, to define and measure risk. We used net of fees and gross of fees returns in our calculation of risk. Our goal was to establish whether risk or fees affected managers’ relative performance versus the benchmark.


• We used the return/risk ratio to evaluate managers’ risk-adjusted performance. To make our comparison relevant, we also adjusted the returns of the benchmarks used in our analysis by their volatility.

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