In recent years, passive funds have become increasingly popular among investors. Unlike with active funds, where fund managers make investment decisions to try and outperform the market, passive funds simply track market indices. So popular have these lower-cost passive funds become, some commentators believe they are close to reaching tipping point in certain markets and could overtake active funds as the vehicle of choice for investors. For example, estimates suggest that for mutual funds and exchange-traded funds that buy US stocks, passive funds’ share of assets will increase from 48% to 50% in 2019.
However, while passive funds based on market benchmarks will play an increasingly important role, it’s unlikely they will replace active funds entirely. This is for the simple reason that only active funds have the potential to outperform the market and offer investors alpha returns. For active fund managers, the challenge is now on to hone their investment models and operations to ensure they can consistently outperform the market.
A recent article in the FT provided some ideas on how active traders can go about achieving this goal – from increasing transparency, to using artificial intelligence tools to free traders’ time so they can focus on investment strategy. In this analysis, AI capabilities allow traders to analyze market data at scale to find the insights needed to outperform the market.
However, if this approach is to work, active fund managers first need to ensure their analytics and operational systems have access to timely, high-quality data. To that extent, the success of active funds in achieving alpha comes down to good data management principles. The first priority for firms is to ensure they have access to the right data, such as benchmarks and reference data.
Today, these data inputs also need to include ‘alternative’ data sources such as those generated by mobile devices, satellites, CCTV, social media feeds, public records and the internet, as this information will allow firms to gain a wider view of the market and the insights they need to make the best investment decisions. They should also include environmental, social and governance (ESG) data so that investment decisions can be tailored to meet client preferences for ethical investing.
Despite the growth of passive funds, active funds are here to stay. By focusing on good data management as the foundation for investment excellence active fund managers will be able to deliver better returns to investors. In a market that is becoming more competitive, good data management offers a route to differentiation and success.
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