Do active managers under perform due to career risk?

One of the frequently discussed topics linked to seemingly unstoppable growth of passive investing is why are active managers unable to beat their benchmarks.

Often cited reason are fees – and they definitely matter! – but as a recent blog post from CFA institute claims, it’s not only that! Based on the research, high conviction positions held by large asset managers do in fact generate return which is 3.67% p.a. better than market return. And that’s a lot!

What’s the catch then? Asset managers “play it safe” by trying to stay close to the benchmark. If a manager has a negative view on banks but there is a steep rebound in the banking sector, the index against which the manager’s performance is measured will benefit from this rebound while the manager’s portfolio won’t.

That is a real problem. Investors are impatient and underperforming funds will face outflows. As a result, many large institutions tend to deliver a return very close to the benchmark and see deviations from it as a risk.

If that sounds like a bad environment for any outperformance, I agree with you. Maybe we got to a point where large institutions, due to their internal restrictions and processes, do have a very hard time delivering any non-market returns. Be it the difficulty of actually setting up positions in sizes that matter if a portfolio gets large, or as discussed above risk of missing your benchmark.

Is specialization the only way out?

At the end of the day, this approach might make the situation worse rather than better. If a manager keeps “hugging” the benchmark, index funds will remain a better value given the costs. Aggressive specialization and niche funds might ultimately be the only way out. There’s no point in paying 2% p.a. to an asset manager to deliver a return of a globally diversified portfolio with more or less fixed weights according to the benchmark (likely MSCI World). But take a look at dividend ETFs and the story changes – dividend ETFs are often full of companies paying seemingly high and unsustainable dividends with a strong bias towards certain sectors (think energy + financials at the moment). And wouldn’t you prefer to have a specialist managing your biotechnology portfolio as opposed to a market cap weighted sector ETF? And how about that China portfolio..

Please let me know what you think about the topic in the comments below!

Expected returns by Robeco

Robeco, the well known Dutch asset manager, published their expected returns for 2020-2024.

Given that returns on nearly all assets are pushed lower as the main benchmark, 10 year German govt bond yields, keep drifting lower, it’s no surprise to see some very conservative expected returns. Developed market equities 3.25% EUR return, emerging markets 3.75% EUR return. It’s pretty interesting to read this while knowing that the Dutch government is considering taxing these 3.25% returns with 1.75% asset tax. (see my article on the spaar belasting change) All this means very very tough times ahead for any asset manager serving retail investors’ non pension savings.

Passive investing for European investors in practice: opening an account

As discussed in the previous posts I wrote on the topic of passive investing with having European investors in mind, many people understand that passive investing is a solid cost-efficient way to hold a diversified portfolio without spending too much time on it.

It is easy, however, to give up this advantage by choosing wrong/high cost intermediaries. When you choose a broker to open your investment account, you should have the following in mind:

  • Choose solid well known brokers with proper legal structures in place where client accounts are held completely separate from the broker entity (see MF capital)
  • Make sure you will be able to buy the instruments you are intending to buy. This is, in general, not an issue in the ETF space EXCEPT that European investors can’t buy US listed ETFs which is a restriction independent of a broker you choose.
  • Choose a low cost broker. As I wrote earlier, cost advantage is your major motivation if you decide to go passive. Make sure you don’t lose this advantage by picking a high cost broker.
  • Consider the fee structure in relation to your portfolio size. Certain fees might be fractions of the amount invested/transaction amount. Some fees are fixed amounts disregarding the size. If you always pay 5 euros per transaction, make sure you don’t invest in chunks of 100 euros!

To be perfectly clear, I don’t have any affiliation with any of the brokers I mention here. The examples I am going to give are based on my experience and (possibly) limited knowledge of alternatives. Please share with me any better alternative you might find!

Degiro is well known in the Netherlands. (would be curious to hear opinion from other countries!) Their mobile app and overall service has improved a lot from their somewhat wilder beginnings. Flatex might be even cheaper alternative (see this comparison of Dutch brokers) but I don’t have any personal experience – please share in the comments below if you have any! From the comparison it’s also fairly clear that the tariffs offered by banks are usually the most expensive (more on this in fd).

If you have larger amount of money and you might also choose Interactive Brokers. IB provides very professional service and platform and low transaction costs but there are fixed costs to be paid monthly which makes this unsuitable for lower amounts. Note there will be a lite version coming up in October with no minimum amounts and ultra low fees – very excited about this.

Passive investing part 9: is bond allocation and outdated option?

This is part 9 of my posts on passive investing for Europe based investors. I will discuss the current bond yields and why, in my opinion, the current levels support more than ever the case that many long term investors should avoid this option altogether.

Is allocation to bonds an outdated option?

As explained in part 8, these comments are relevant to long term investors as investors in need of funds in the short term might have other considerations – something I might come back to earlier but in general the closer you are to the retirement age (or any age when you are in need of your funds) the higher balance you need to have in liquid and stable assets.

Having said that, as explained earlier, in my opinion, there is a very strong case to disregard the idea of splitting your portfolio between stocks and bonds at any level of yields for long term investors.

The case for Europe based investors gets even stronger if current yields are taken into account. At the moment the German 10 year government bonds delivers a guaranteed yield of -0.525%. Yes, you will lose 0.525% each year, guaranteed.

As of now, there seem to be political and other issues that prevent many banks from passing on negative rates on savings accounts, making even a savings account a better alternative to government bonds!

And this is before considering any costs (transaction and other) related to adding bond ETFs into your portfolio.

Note that we are discussing nominal yields, i.e. not even adjusted for inflation. If there is a spike in inflation, which can happen due to various unforeseen possibilities, you will incur steep real losses on your bond portfolio.

Let me know what you think! I do agree that certain more active approaches to investing might see value in holding bonds, e.g. in a steep decline, bonds can be swapped for relatively much cheaper stocks but it’s hard to see any such argument for a passive investor.

Passive investing part 8: get paid for that risk

This is part 8 of my posts on passive investing for Europe based investors. I hope that the previous posts gave you some high level understanding of options for a passive investment portfolio. In this post I’ll explain my view on how to allocate your portfolio and why I think much of the advice you get at the moment is either outdated or irrelevant for many people.

Volatility of returns is a poor measure of risk for many investors

As discussed in part 7, equities clearly provide much less stable returns but over a very long period of time they beat any bond portfolio by a huge margin. Even in spite of this fact, many individual investors are advised to diversify and split their portfolio roughly 30-40% in bonds and the rest in equities.

In general the idea is to make the portfolio returns more “smooth”. However, the same way as it doesn’t make sense to buy every insurance policy available to you, you shouldn’t hurt your long term results by avoiding a risk that might not even be a risk for you.

The supposed riskiness of equities comes from the fact that prices fluctuate (sometimes a lot!) and there’s no clear floor below which they can’t fall. Having said that, if your investment horizon is long, say 20 years, and you don’t use borrowed money to invest, this is hardly a risk for you! If you imagine yourself in 20 years from now, getting 7% annualized return over the period with two bad years when your portfolio dropped 25%, does it matter for you?

Get paid for the risk you’re not taking

If you chose to stick to (“less risky”) government bonds instead, assuming a return of 2% you would end up having 1485 euros for 1000 euros invested. If we assume that equities returns is usually approximately 5% above bonds, i.e. 7% annualized return over the period, you would have 3869 euros in 20 years!

As a result, choosing to be shielded from the short term price fluctuations cost you almost 2400 euros on 1000 euro investment!

Now of course this argument gets more difficult if you’re getting close to retirement age when you need to start closing down your investments to finance your regular life activities. But especially at younger age, the returns given up by choosing an overly defensive investment profile can be extremely dramatic!

In the next post I will write a bid more why the advice to invest in bonds might be outdated.

Please share any questions or thoughts on the topic in the comments section below!

Passive investing part 7: bonds vs stocks

This is part 7 of my posts on passive investing for Europe based investors. After discussing historical returns for stocks and bonds it seems to be pretty obvious. You should allocate everything into bonds, they’re safe and stocks are risky! Or should you?

Financial definition of risk – do you care?

Mean returns of various assets are often compared to the distribution of their returns. If we consider actual numbers (more detail on this very good website on the topic), although US equities averaged about 10% returns per year, half of all returns were either worse than -1% or higher than 25%. In fact, 10% of all returns were worse than -20% or better than 39%.

Now US 10 year government bonds in comparison delivered on average 5% per year, with half of the returns between 0.84% and 8.46%. Of course this matters, if you have very cheap financing and you are willing to use leverage, i.e. investing using borrowed money, you can in theory multiply these returns by investing equivalent amount of risk as opposed to money terms. However, this is not an option for most investors.

Now say your investment horizon is 5 years as opposed to 1 year. Using Shiller’s data and including dividends, we get 50% of returns on US equities between 8% and 73% over any 5 year period. Over any 10 year period, we get to 50% of outcomes between 30% and 142% and 5% of worst outcomes below -20% (note the sample includes the Great Depression).

Small difference, huge impact

The relatively small difference in annualized returns translates into about 40 times higher value for the stocks portfolio. This can be even as much as 50 times depending on chosen periods/methodology (see similar results at mindfully investing). The graph below uses Shiller’s data.

Real compounded returns for US equities (blue) compared to US bonds (red)

Asset allocation implications

If I had a choice today for a 10-year purchase of a 10-year bond at whatever it is … or buying the S&P 500 and holding it for 10 years, I’d buy the S&P.

Warren Buffet for CNBC

Taking compounding into account, the Warren Buffet’s quote above should not come as a surprise. Note that this is without even taking the current bond yield into account.

I will share some more thoughts on asset allocation in the next post.

Please let me know what you think in the comments below!

Passive investing part 6: historical returns – bonds and real estate

This is part 6 of my posts on passive investing for Europe based investors. This post will wrap up overview of historical returns. After discussing equities in part 5, I will wrap up the overview of historical returns with overview of returns for bonds and real estate.


Bonds are assets with pre-defined payoff (coupon paid, usually every 6 months) and maturity, i.e. the date of the final repayment of the full borrowed amount by the borrower.

Due to the above, bonds are often perceived and described as less risky due to the fixed payment schedule. If you hold a bond issued by strong government (say the United States), you will get payments over the coming years as scheduled and market price fluctuations become irrelevant, to the extent you plan to hold the bond till maturity.

Note that bonds are a fairly complicated asset class with various niches. However, the more niche parts of the market are not necessarily suitable for ETFs/passive investors – I might come back to this later in more advanced articles. Or please let me know if you want me to write on this topic soon!

Government bonds

iShares Global Govt Bond UCITS ETF is an ETF that holds government bonds of developed governments with the US representing about 45% and Japan 22% at the moment. The return for the past 10 years is 2% but note that much of the return comes from years 2009-2011 when the yields around the world decreased which increases the market price of the bonds held by the ETF.

As per the Ilmanen’s book, long history of government bond returns gives an average of about 5% per year nominal yield although it is again important to note that inflation used to be much higher than what we have seen in the past 10 years.

If we use only overlapping periods for stocks and bonds (as you can see on this very useful website) you get to roughly 4.5-5% outperformance for equities compared to bonds. Note that over the long term, this is a huge difference as will be discussed in the next article.

Real estate

I won’t discuss real estate here too much as a) real estate markets tend to be driven by many local factors, b) many people do have a huge exposure to the real estate market and c) many diversified ETFs also hold, among others, real estate related stocks. Having said that, often owning a house as opposed to renting is a very good idea although in the current credit driven economies, one needs to be mindful that in some markets prices might have been pushed too far.

Passive investing part 5: historical returns – equities

This is part 5 of my posts on passive investing for Europe based investors. Even though I will follow the order as indicated in part 1, please feel free to ask or share any related thoughts in the comments below. In this post we will look at the risk and returns of the asset classes I wrote about in my previous article.

Expected returns

There is a fantastic book, although aimed at professional audience, on the subject, Expected returns by Antti Ilmanen. For the purpose of this series of articles, I will summarize roughly what returns did investors experience in the past and how these might relate to the future. In examples below I will use iShares ETFs as this provider is the most relevant for European investors at the moment.


Equities provide returns to investors in two ways. Either by dividends or by capital appreciation (i.e. stock prices increasing). Neither of the two sources of income is guaranteed which makes many classify equities as risky.

Developed market equities

For recent history, we can look at iShares MSCI World UCITS fund. The return of past 10 years is annualized 8.87% and 6.35% since inception 13 years ago. If we look at world equities in the past 30 years, we get to approximately 6% average nominal return. Even longer history gives a bit higher returns (above 8% based on the Ilmanen’s book) but this includes periods of much higher inflation. It is important to understand that the realized return each year is rarely close to the averages above and it is in fact very often far from it with both losses of more than 10% and returns of more than 20% relatively frequent! (see MSCI world history till 1970)

Emerging market equities

If we look at the iShares Emerging Markets UCITS etf , past 5 years delivered average return of -0.20%. The MSCI emerging market index delivered about 3.6% annualized return since 2000. It is fair to note that the recent years were unusually bad for the emerging markets due to readjustment of the Chinese economy and the end of the supercycle in commodities.

Bonds & Real estate will be covered by the next part.

I would like to know what you think! Please feel free to share your thoughts in the comments below or using the contact form to reach out to me directly.

Passive investing part 4: asset classes

This is the fourth post in my series of articles focused on passive investing for Europe based investors. Even though I will follow the topics as indicated in the part 1, please feel free to ask or share any related thoughts in the comments below. This post will prepare us for discussion of historical returns by describing the main asset classes.

Asset classes

There are roughly 4 core “asset classes” (inspired by Swensen’s Unconventional Success although as most books this one is aimed at US based investors) to consider: developed market equities, emerging market equities, government bonds, corporate bonds and real estate.

I will very likely write more in detail on each of the asset classes but for now I will just give a high level description of each of them.

Developed market equities mean portfolio of shares in companies that tends to be biased towards the US, Europe and Japan. In general, these countries have a long tradition of relatively good business practices with strong protection of private ownership.

Emerging market equities consists of portfolio of shares in companies outside of developed markets, in practice having a strong bias towards China and other major emerging Asian economies. As these economies are still catching up with developed markets, they should, in theory, experience higher growth. However, this does not necessarily mean higher returns for equities.

Government and corporate bonds ETFs effectively earn their return by lending to governments or companies, varying in risk as well as periods over which money is lent.

Real estate is an asset in which many people are invested through owning the house they live in or even by renting them out to produce additional income.

After this primer on asset classes, we are now ready to discuss historical returns and risk.

Do you have questions? Please ask in the comments below!

Passive investing part 3: crowding, forecasting and (lack of) emotions

The third post of my series of articles focused on passive investing for Europe based investors, I will continue on the topic of why passive investing can be positive for your investment performance even before lower fees are taken into account.

Passive approach allows you to avoid hypes and fads

Maybe one of the most important things in passive investing is to stick with your pre-defined policy. This helps you avoid the following issues:

  1. crowding
  2. forecasting
  3. emotions driven decision making


Active managers tend to be optimistic and pessimistic on the same firms at the same time and portfolios that buy stocks on which active managers are the most negative and sell stocks on which they are the most positive tends to perform very well. The mechanism is clear – the whole investing world reads the same news and this leads to, on average, similar conclusions. This leads to two issues: if prices of stocks all managers buy go up and if prices of stocks all managers hate (or sell) go down, the disliked companies eventually get pushed to a price advantage that more than compensates for the perceived lack of performance of their underlying businesses. Second reason has to do with forecasting.


“Forecasts may tell you a great deal about the forecaster; they tell you nothing about the future.”

Warren Buffet

Forecasting is extremely hard. Although forecasts can help understand what the outlook is “right now”, it rarely is the case the situation stays the same and there are just too many unexpected events that can make a 12-month forecast useless in a day. Central banks have gotten infamous with their ever revised predictions of lower inflation for longer in recent years. But especially during Donald Trump’s presidency with steps taken on international trade which are near impossible to anticipate, it is fairly clear that any forecast needs to be taken with a grain of salt.

There are, however, trends worth being aware of such as demography, major shifts in the economy (e.g. fossil fuels) and shift in the relative importance of certain regions (e.g. Asia rising and Europe relatively fading) but even then this is largely not important for well chosen diversified passive investment policy.

Emotions driven decision making

Lastly, often investor’s worst enemy is the investor herself. Emotional decisions lead to bad actions taken at the worst time possible. A few examples:

  • selling due to market collapse
  • not buying according to the investment policy because market just crashed, buying when market bounces back
  • buying after strong returns due to “fear of missing out”
  • trading too often, increasing fees in the process
  • focusing on opportunities with short term payoff while not pursuing better long term opportunities

To relate the above to the first two points of this article: when active managers are the most fearful and forecasts are the most negative, it is probably the most likely that the future won’t be as bad as expected and asset prices will recover. If you stick to your passive investment policy, you can avoid even having to take any decisions, saving your time but also harvesting returns that other leave on the table.

As always, please share any remarks or questions in the comments below or feel free to use the contact page on this website.