One in five European equity funds are closet trackers, but the number is falling, finds research from Morningstar.
A report from the research and ratings house looking at the active share of European equity funds finds that 20 per cent qualify as closet trackers, despite charging active management fees.
The report looked at the active share of 456 funds in the European large cap equity space, across value, blended and growth strategies. Funds with an active share of 100 per cent have no common holdings with its category’s index, while those with a 0 per cent active share would mirror the index.
Average active share for the large cap funds was 70 per cent in the three-year period to March 2015. Morningstar classes those funds with a three-year average active share of below 60 per cent as closet trackers.
However, the report found that the number of closet tracker funds has been falling since the financial crisis, when 40 per cent of the sector were deemed closet trackers .
The majority of the new fund inflows have fallen into the most active funds, Morningstar finds.
Matias Mottola, senior manager research analyst at Morningstar and one of the authors of the report, says: “Average active share levels dropped considerably during the financial crisis of 2008 and 2009 but have been rising at a steady pace since then. In Europe we’ve witnessed increasing scrutiny from regulators in many countries, which could lead to structural change and less closet indexing in the market.”
The report also found that the most active funds charge on average 33 basis points more than the average for the least active funds.
“Among the least active funds, we found that almost all closet indexers underperformed their benchmark. If combined with high fees, such a fund is rarely a good choice,” adds Mottola.
The European Securities and Markets Authority recently released research that found between 5 and 15 per cent of the funds it examined are closet trackers.
The regulator assessed 1,251 equity funds and their performance between 2012 and 2014, using the measures of active share, tracking error and R-squared to determine how much the funds were deviating from the index.