PLANSPONSOR - December 2017/January 2018 - 34

DB FOCUS
Active or Passive Strategies
" N
Smart beta can offer active management benefits for lower fees
o battle plan ever survives
first contact with the enemy, "
observed Helmuth von Moltke,
the 19th-century Prussian army head.
Many sponsors of defined benefit (DB)
retirement plans know the feeling: They
carefully lay out an investment plan, paying
premium fees for active management
so as to earn premium returns over the
markets. But during many years of solid
gains their plans have been foiled, because
the lion's share of active managers have
failed to outperform when the markets
have been so strong.
Many investors have migrated away
from active management, to passive
strategies that can be bought for next
to nothing. But, in addition to buying a
chance at excess return, the extra fees of
active management also pay for an equally
important role in managing risk, notes
Brad Smith, a partner in the Atlanta office
of consulting firm NEPC. " We haven't had
a big market drawdown in nine years, and
those sponsors that have stayed active want
that downside protection. "
The historical performance record for
active managers has been bleak: Over the
five years ended this past June, between
75% and 90% of U.S. large cap managers
fell short of the market, and, over 10 years,
the percentage of outperformers in growth
and core styles registered only in the single
digits, according to the mid-2017 SPIVA®
U.S. Scorecard compiled by Standard &
Poor's (S&P) Dow Jones Indices. Among
international and global funds, about 80%
of managers lagged benchmarks in their
10-year results. These statistics apply to the
universe of U.S. mutual funds, but likely
provide a reliable view into the results of
institutional accounts as well.
Little wonder, then, that sponsors of
defined benefit plans have shifted assets
into passive strategies. Research from
NEPC reckons that 22% of assets in U.S.
34 PLANSPONSOR.com December 2017-January 2018
Art by Pete Ryan
defined benefit plans were invested in
passive strategies at the end of 2016, up
from 14% in 2008. Looking ahead, NEPC's
2017 Defined Benefit Trends Survey notes
that about 10% of sponsors reported they
intend to increase their passive allocations
in 2018, Smith says.
" We recognize that investors have
lost faith and are moving to passive, " says
Christina Bargeron, manager research
consultant in the Philadelphia office of
consultant Willis Towers Watson. " That's
only rational, as a lot of active equity
strategies have overdiversified portfolios
and high fees. " She adds that, over time,
many managers' tracking errors have
decreased-a sign of a less active approach.
But U.S. equities make up a large part
of most DB portfolios, raising the potential
payoff to be gained from finding superior
active managers. " The best solution we
have found is to look for skilled managers
with concentrated portfolios, " Bargeron
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