CalPERS Reviewing Passive Investment Strategy

Thursday, 28 Mar 2013 10:08 AM

By John Morgan

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CalPERS, the second-largest pension fund in the United States, is considering a switch to an all-passive investment portfolio, which could be a watershed moment for the professional investment community.

CalPERS, the California Public Employees’ Retirement System, oversees about $255 billion in assets, so its decisions are followed closely.

While more than half of its assets are already invested in passive strategies such as index funds and exchange-traded funds (ETFs), CalPERS’ investment committee is reviewing its investment strategy, according to Investment News.

Editor's Note: Economist Warns: ‘Money From Heaven a Path to Hell.’ See Evidence.

The review could have implications for CalPERS’ active managers, according to Pension and Investments magazine.

Investment News said the CalPERS review is occurring just as many of the largest brokerage firms are promoting passively managed ETFs.

“It’s sort of an exclamation mark on a trend that most are aware of,” Chris McIsaac, managing director of the institutional investor group at The Vanguard Group, told Investment News.

Big firms like Fidelity Investments, Charles Schwab and TD Ameritrade have been offering increasing menus of commission-free ETFs that play into a trend toward passive investing.

“There will continue to be a growing interest in the passive side because cost matters to investors,” said Beth Flynn, vice president and head of third-party ETF platform management at Schwab.

“Virtually all our adviser clients use ETFs in some way, shape or form,” she added. “Usage is much lower on the individual-investor side, but growing at a pretty steady and rapid clip.”

A recent Schwab survey found more than 40 percent of individual investors plan to increase their use of ETFs over the next year, according to Investment News.

Since 2003, investors put more than $1 trillion in passive funds, but have pulled $287 billion from actively managed equity funds.

Meanwhile, passive bond strategies have had inflows of $260 billion since the beginning of 2008. Between 2003 and 2007, they had $73 billion of inflows, according to Lipper data cited by Investment News.

The percentage of active managers beating their benchmark has been shrinking in recent years.

Over the past 10 years, just 38 percent of large cap equity managers have beaten the Standard & Poor’s 500. Over five years, the proportion shrinks to 31 percent, and over three years, it is just 18 percent, according to Morningstar.

Passive index funds tend to do well in rising stock markets, but in a sinking or volatile market, the losses can be greater than those in actively managed funds, Ted Schwartz, chief investment officer of Capstone Investment Financial Group, wrote in an article for ABC News.

“For example, if your index is the S&P 500 and the overall market trend is down for years, you not only sustain real losses, you also get no compounded returns and you get eaten up by inflation because the buying power of what’s left of your original capital is eroded,” Schwartz said.

Editor's Note: Economist Warns: ‘Money From Heaven a Path to Hell.’ See Evidence.

© 2014 Moneynews. All rights reserved.

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