Stock pickers are having a big year.
In the first half of 2017, 54% of active managers outperformed their benchmark Russell 1000 index, according to Bank of America Merrill Lynch.
It was the first time the bank’s data showed that more than half of managers beat their benchmarks in the first half of the year. At this pace, they’re headed for their best year since 2007.
This outperformance was driven by following the crowd: Active managers tended to have large positions in the popular sectors that have delivered the market’s biggest returns.
“Sector positioning helped, as managers have been consistently overweight 1H’s best-performing sectors — tech, discretionary and health care — with a record overweight in tech,” Savita Subramanian, Bank of America’s head of US equity and quant strategist, said in a note on Thursday.
Outflows from fund managers that select individual stocks to more passive strategies including indexing accelerated after the financial crisis and reached an annual record in 2016, according to Bank of America. This helped lower the fees that active managers charge, and made it easier for funds to beat their benchmarks before fees were taken into account.
But outperformance remained low even though the correlation
of securities within an index like the S&P 500 is below average. Theoretically, when stocks move less in tandem, it’s easier for active managers to pick the ones that are stand-out winners.
“As soon as the market turns and starts having meaningful movement back and forth … there’ll be a shift back to [active] because that’s where the active managers make their money,” according to Steve Quirk, executive vice president of the trading group at TD Ameritrade.
Following what everyone else was doing worked well enough for active managers in the first half, but that could also be a setback.
“While ‘following the crowd’ worked in 1H, we see risk that funds’ biggest overweights could lag stocks which are underowned by active funds if investors rotate out of what worked — and where underowned stocks by active should benefit from continued flows into passive vehicles,” Subramanian said.