Indexology^® Blog

In the first quarter of 2020, the global economy experienced not a slowdown, but a shutdown. As COVID-19 swept the world, outsized market movements became the new norm. The S&P 500^® finished its worst quarter (-19.6%) since 2008’s global financial crisis. International equities fared even worse as the S&P International 700 lost 22.4%. While investors were catching their breath after the February-March sell-off, the S&P 500 rebounded in April and posted its largest monthly gain (12.8%) since 1987.

Active managers sometimes seek to soften the conclusions of our regular SPIVA^® reports by arguing that, while index funds may have the advantage in rising markets, it’s in volatile downturns that active management can prove its worth. Historical data argue otherwise,[1] and most active managers continued to underperform in 2020.

Of domestic equity funds, 64% underperformed the S&P Composite 1500^® in the first four months of 2020, and 67% underperformed in the past two quarters. During the one-year period ending March 2020, 72% of domestic equity funds underperformed, slightly worse than the year-end 2019 result (70%).

Most large-cap funds underperformed the S&P 500 across all time horizons. The consistency of their underperformance in the first quarter market decline and the April rebound was especially noteworthy. During Q1 2020, 54% of all large-cap funds underperformed; in April, the YTD underperformance percentage increased to 59%. We also observed this pattern in other categories, highlighting the difficulty in market timing.

Short-Term Success versus Long-Term Underperformance

Unsurprisingly, SPIVA results are noisier for shorter time horizons. Although we see pockets of relative success for active managers up to three years, over the long term, they still generally lagged their benchmarks.

In the large-cap space, the only bright spot was large-cap growth, where 75% outperformed in the past two quarters. However, short-term success didn’t compensate for previous underperformance. For the past 15 years, 91% lagged the S&P 500 Growth. Mid-cap and small-cap funds were similar: 64% of all mid-cap and 57% of all small-cap funds beat their benchmarks in the past two quarters, aided by the superior performance of larger names. Their short-term success had little impact on their long-term scores though: 82% underperformed over the past 15 years in both categories.

A similar story occurred in international equities and fixed income. Despite the short-term success of global funds and international small-cap funds, most managers lagged their indices across all categories for any periods three years or longer.

Conclusion

Early 2020 results rebut the view that active funds navigate market turmoil better than index-based funds. Even where results are relatively favorable, the data show the difficulty of market timing. Mixed results in the short term did not change active funds’ tendency to underperform indices over the long term.

Learn more during our webinar on June 30, How Has COVID-19 Affected Active vs. Passive Performance?

[1] 65% of domestic equity funds underperformed the S&P Composite 1500 in 2008.

Has the IT sector done well because of the quality factor, or is it the other way round? S&P DJI’s Anu Ganti takes a closer look at the relationship between sectors and factors to explore what’s driving IT’s climb over the past 12 months.

Read the blog: https://www.indexologyblog.com/2020/05/27/symbiotic-sentiments/ 

Target date funds have seen tremendous growth. At the end of 2019, assets in target date mutual funds reached nearly USD 1.4 trillion, impressive growth from USD 256 billion a decade ago.[1] Other than a brief dip in the fourth quarter of 2018, the growth of assets has been fairly stable with an upward trajectory (see Exhibit 1).

Several variables drive this sustained growth. Target date funds are used by many plan sponsors as one of the qualified defined investment alternatives (QDIA)[2] under Department of Labor regulations. At the same time, the burden of saving adequately for retirement now falls squarely on employees as plans shift from defined benefit structures to defined contribution structures. That means that relatively unsophisticated plan participants need to make investment decisions on asset allocation and portfolio construction. Against that backdrop, it’s not surprising to see target date funds gaining traction among defined contribution plans, as they offer a one-stop shop solution. They are often the default investment option on employer retirement plans.

There is fair degree of heterogeneity in target date funds’ construction, leading to substantial dispersion in realized returns even within the same category. Returns differ for several reasons:

• Different glide path construction, which determines how asset allocation shifts over time;
• Capital markets assumptions; and
• Asset classes used.

For example, the spread between the 90^th percentile fund and the 10^th percentile fund for the 2020 target date vintage is nearly 507 bps. The spread varies with the year, but the average across all vintages amounts to approximately 430 bps (see Exhibit 2).

In an extreme scenario, consider two plan participants entering the workforce at two different firms at the beginning of 2020, with each having an identical 40-year time horizon. Each participant enrolls in a 2060 target date fund offered by their respective firm. Additionally, if we further assume that one fund is in the top decile while the other is in the bottom, then the difference in compounded returns between the top- and bottom-decile funds over a 40-year working life[3] could be as much as 400% on a cumulative basis. Therefore, performance drag can make a meaningful difference in determining whether a participant has adequate savings for retirement.

All of this raises the issue of how to evaluate the performance of a target date fund. Target date funds are sometimes benchmarked to a static portfolio with fixed weights of equity and bonds, such as a 60/40, or in an egregious case, simply to the S&P 500^®. Neither one is truly reflective of a fund’s objective or reflective of the outcome investors receive.

Employees nowadays face the difficult burden of saving adequately for their retirement years. Target date funds are innovative solutions providing pre-packaged investment decisions that plan participants would otherwise have to make. Unfortunately, there is no uniformity when it comes to the construction of target date funds, making it difficult to determine whether the funds are truly delivering for their plan participants. Independently calculated and governed target date benchmarks, like those offered by S&P DJI, fill that gap by providing transparency and easy performance attribution.

[1] Based on quarterly assets data from the Investment Company Institute.

[2] A QDIA is a default investment option chosen by a plan fiduciary for participants who fail to make an election in their investment accounts.

[3] We assume that the top-decile and the bottom-decile target dates remain in their respective deciles over the course of the 40-year horizon and maintain the 2060 vintage spread of 3.58%. The difference is then compounded over the 40-year horizon.

It’s time to look at dividend indices through the lens of these “unprecedented times.” Many market participants seek the comfort of dividend strategies, precisely for the yield they can generate. However, dividend investing is under siege, since many companies have announced reduced dividends or have suspended them altogether given the impact of the COVID-19 pandemic on the global economy. A crystal ball might come in handy to foretell the future. In the absence of that, we can look at historical periods of financial crisis to see how these strategies performed.

Exhibit 1 focuses on the Global Financial Crisis (GFC) of 2008, which shows that during mid to late October 2008, the main country benchmarks in Mexico, Chile, and Brazil declined substantially. However, with the exception of the S&P/BMV Dividend Index, the other local dividend indices outperformed their respective benchmarks. The S&P Dividend Aristocrats^® Brasil and the S&P Brazil Dividend Opportunities outperformed the S&P Brazil LargeMidCap Index by 11.6% and 14.0%, respectively.

Not only did most dividend indices fare relatively well compared with their respective benchmarks during the GFC, but in all cases, the strategies recovered faster and, in some cases, much faster. In Mexico, the total return version of the S&P/BMV IPC took 139 days longer to recover than the S&P/BMV Dividend Index. The S&P Dividend Aristocrats Brasil Index and S&P Brazil Dividend Opportunities each took around a year to recover, while, shockingly, the benchmark took nearly eight years to achieve a new peak after the drawdown.

Was this a unique outcome tied to the GFC? Not necessarily. Exhibit 2 gauges the period between 2010 and 2012 to capture the period during Black Monday,[1] and it paints a similar picture as that of the GFC. However, in this case, all dividend indices outperformed their respective benchmarks and recovered much faster too.

What happens when the events are more local? Exhibit 3 confirms similar results. In January 2014, a sharp devaluation of the Chilean peso against the U.S. dollar and the general loss of confidence in emerging markets caused a significant drawdown in Chilean equities. In January 2016, due to crude oil prices falling sharply, Peru and Brazil displayed major drawdowns.

In conclusion, history shows that dividend indices in Latin America were generally able to ride out unprecedented times better than their benchmarks. While past performance is certainly no crystal ball, it may provide useful context.

[1] The Black Monday crash of Aug. 8, 2011, refers to the time when the U.S. sovereign credit rating was downgraded by S&P Global Ratings for the first time in history.

The first half of 2020 has been gold’s time to shine. The double-digit YTD gains outpaced equities and other safe-haven assets during these uncertain recessionary times. As of May 29, 2020, the S&P GSCI Gold was up 13.94% YTD. Unprecedented global fiscal and monetary stimulus measures have significantly increased sovereign debt levels, leading to concerns of currency devaluation. Historically, such environments have been constructive for gold as a globally recognized store of value. Low to negative global real yields and gold’s low correlation to other assets add to the positive catalysts in the current environment.

It has not been an entirely smooth ride this year, with some volatility along gold’s path to outperformance, as was highlighted in a blog by Fiona Boal. A rhyming pattern appeared along the lines of the 2008 Global Financial Crisis, in which a need for liquidity forced market participants to sell gold holdings before reloading and returning gold back to an upward trend (see Exhibit 2).

This year’s backdrop of the potential for a pandemic-induced global recession comes as the China-U.S. trade war restarts. There is a deglobalization of supply chains, creating a less-inclusive global economy. Uncertainty in the near term seems to be the only certainty in 2020.

This year is also different from a demand perspective as it relates to gold. According to the World Gold Council, first quarter 2020 jewelry demand was the lowest in over 10 years, while first quarter investment demand was the highest since the first quarter of 2016 (see Exhibit 3). Preliminary data suggests the second quarter of 2020 is shaping up to be a continuation of this trend, with reduced consumer spending on non-essential jewelry purchases combined with record flows into gold exchange-traded products.

As of May 29, 2020, the S&P Commodity Producers Gold Index returned 16% YTD. The environment is particularly attractive for these companies, with potential M&A activity ahead due to fewer large-scale discoveries of gold deposits. Once discovered, it can take 15 years to reach successful ore production. Fewer discoveries and near-term mine suspensions by governments due to COVID-19 make the precious metal that much scarcer. There was a fifth consecutive quarterly decline in global gold mining prior to any of the recent pandemic-related shutdowns.

In 2019, S&P Dow Jones Indices launched a 70% futures and 30% gold equities blended index, the S&P GSCI Gold Dynamic Roll 70/30 Futures/Equities Blend, to allow participation in the gold market across asset classes. We also offer many additional gold-related indices to meet the needs of market participants. To learn more, visit https://spdji.com/landing/investment-themes/commodities.