Passive Beats Active Again in 2024

Passive Beats Active Again in 2024

By James Parkyn - PWL Capital - Montreal

Passive funds offer better results and a steadier path to navigate tough markets

It’s during challenging times like this that people find out what kind of investor they really are.

What is your tolerance for risk and volatility? Do you react to the headlines (which often means buying high and selling low)? Are you paralyzed by indecision—possibly missing opportunities because you’re waiting for the right time to act?

Mindset makes all the difference. When you adopt a long-term investor mindset, short-term macroeconomic events shouldn’t change your investment plan. Markets are out of our control and can’t be predicted—but you can control your own emotions and tune out the noise.

Sticking to the plan

Of course this isn’t always easy, and today’s volatility can test our discipline. At PWL, we like to keep in mind the words of the world’s most famous investor, Warren Buffett. He is a well-known advocate for tuning out the noise, managing emotions and sticking to a long-term investment plan.

As Mr. Buffett puts it, “Stocks are safe for the long-run and they’re very unsafe for tomorrow.”

This quote is a good jumping-off point to the topic of our latest Capital Topics podcast—passive versus active management.

80% of active funds underperformed

Readers of this blog will know we aren’t fans of market timing and active management. Two new reports add to the ample evidence supporting our view. The SPIVA Canada Scorecard measures the performance of actively managed Canadian funds against their benchmark or index.

This year’s findings are similar to the results we’ve written about in the past. Over 80% of active funds underperformed their benchmarks in 2024. This includes 72% of international equity funds, 89% of Canadian Equity funds and a remarkable 96% of Dividend and Income Equity funds.

This wasn’t just a fluke bad year, either. The underperformance generally gets worse with longer time horizons. Over 10 years, 93% of active funds underperformed their benchmarks, including 82% of Canadian Small and Mid-Cap funds and 100% of Canadian Focused Equity funds.

A minority of stocks drove most gains

The stark underperformance isn’t explained only by fees. Funds benchmarked against the S&P/TSX Composite Index underperformed by 4 percentage points last year, while funds benchmarked to the S&P World Index underperformed by 9 points. The active managers in the S&P World Index category left a third of the performance on the table last year since the benchmark gained 30%.

A key reason for the poor results, SPIVA found, is that “a minority of stocks drove most of the gains…. active stock selection delivered worse-than-random results….

“Opportunities to generate outperformance through astute stock selection, sector and capitalization tilts were present, but difficult to capture,” the report concluded. “Patterns of majority underperformance continue to illustrate the headwinds facing many active managers year after year.”

Just 4% of stocks generated wealth

The finding reinforces data we published last year that just 4% of stocks generated all U.S. stock market wealth from 1926 to 2023 above a risk-free investment in Treasuries. A majority of stocks—51.6%—actually had negative compound returns.

This means if you didn’t own those 4%, you would have lost out on the massive 22,940% gain in equities during that period. How do you ensure you own that 4%? Not through jumping in and out of stocks, but via owning the entire market with broadly diversified, passively managed index funds, as our clients do at PWL.

Only 22% of actively managed funds outperformed over 10 years

The story is similarly sad for actively managed funds in the U.S., according to the Morningstar U.S. Active vs Passive Barometer. The Morningstar report measures active fund performance against passive peers net of fees.

It found that 42% of actively managed mutual funds and exchange-traded funds beat their passive counterparts in 2024. Over 10 years, the underperformance was worse. Just 22% of active funds survived and beat their passive peers.

Our good friend and colleague Raymond Kerzerho nicely summed up the benefits of passively managed funds in his new report, “The Passive Versus Active Fund Monitor.”

“Passive funds offer advantages that active funds can hardly compete with, including lower management fees, lower transaction costs, consistently higher returns, transparency, tax efficiency, and peace of mind for investors,” Raymond wrote.

Passive funds grow quickly

It seems that investors have taken note of the overwhelming data about the advantages of passive funds.

Passive funds have increased their global market share every year for the past decade and now account for 43% of the market, up from 23% in 2015, according to Raymond’s report.

Even more impressively, passive funds’ assets under management worldwide have grown 291% to USD $21.8 trillion during that period. This rapid growth far outpaced that of active funds, which added a more modest 53% in assets, now totalling $28.3 trillion.

Focus on evidence

Raymond cautions, however, against the perception that “the whole market is turning passive.”

For one thing, many people own passive funds, but use them to actively trade—buying and selling to time the market. Doing so, they risk underperforming in the same way that active funds tend to.

Tough markets may test your nerves. But they can be a chance to revisit your risk comfort level and make sure your long-term investment plan is still in sync with your needs.

They’re also a good reminder that smart investing relies on evidence, not drama.

Let us help you secure your legacy and make a lasting difference. Contact us today to learn more about our comprehensive wealth transfer and philanthropic planning services.

For more commentary and insights on investing and personal finance, listen to our Capital Topics podcast and subscribe to never miss an episode. And download your free copy of our popular eBook Seven Deadly Sins of Investing.

Guide to Intergenerational Wealth Transfer: Preserving Your Legacy Through Strategic Planning

Guide to Intergenerational Wealth Transfer: Preserving Your Legacy Through Strategic Planning

By James Parkyn - PWL Capital - Montreal

You've built a strong financial foundation. Now, it’s time to ensure a smooth transfer of your wealth to loved ones. The Parkyn—Doyon La Rochelle team understands the complexities of intergenerational wealth transfer and can guide you through every step. Working closely with your tax and legal professionals, we'll create a clear and comprehensive plan to fulfill your wishes.

What is Intergenerational Wealth Transfer?

Intergenerational wealth transfer involves passing of assets like money, property and investments, from one generation to the next. This transfer often occurs within families, through inheritance, gifts, or trusts, sustaining family financial legacies and giving future generations economic advantages.

The Importance of Careful Intergenerational Wealth Transfer Planning

For financial advisors, helping clients transfer wealth across generations is one of the most significant and rewarding challenges. We have been working with families in Montreal and across Canada for over 25 years. We are dedicated to helping our clients navigate these important, often emotionally charged milestones, while ensuring they feel supported and heard throughout the process.   

We provide thoughtful support, information, and resources to make this process a success. This includes collaborating with your trusted legal and tax advisors to help secure your financial legacy, promote harmony, and ensure enduring family values are passed to the next generations. As your “quarterback,” we work with your team of professionals to ensure your family proceeds with confidence.

Careful wealth transfer planning is crucial for two key reasons:

  • Preserving Wealth: Proper planning helps mitigate risks like tax burdens and mismanagement, protecting wealth for future generations.

    Minimizing Disputes: A clear, documented plan can reduce family disputes over inheritance, fostering harmony and continuity.

Essential Estate Planning documents

For provinces where common-law applies:

  • Legal will

  • Ethical Will

  • Revocable Living Trust

  • Durable Power of Attorney for Financial Affairs

  • Durable Power of Attorney for Medical Decisions

  • Living Will for Quality-of-Life Decisions

For Quebec Residents where the civil code of Quebec applies:

  • Legal Will

  • Ethical Will

  • Protection Mandate for Financial Administration and Medical Care

  • Advance Medical Directives

Key Strategies for Intergenerational Wealth Transfer

  • Estate Planning: This is the cornerstone of wealth transfer. Comprehensive estate planning involves wills, trusts, and other legal instruments to ensure your assets are distributed as you wish. Trusts offer added flexibility, allowing for specific conditions and timelines.

  • Tax Planning: Tax-efficient wealth transfer is essential. Strategies like gifting, charitable donations, and tax-advantaged accounts can significantly reduce the tax burden on heirs. For families with privately held businesses, an estate freeze may be a valuable tax strategy.

  • Education and Communication: Preparing the next generation to manage and grow their inheritance is crucial. Financial education, involving heirs in family business decisions, and open communication about wealth transfer plans promote readiness and alignment.

Role of Philanthropic Planning in Intergenerational Wealth Transfer

Philanthropy is increasingly integral to wealth management, with high-net-worth families recognizing the importance of giving back. Integrating philanthropy into wealth transfer planning offers several benefits:

  • Tax Benefits: Charitable donations can reduce tax liability, maximizing the wealth passed on.

  • Legacy Building: Philanthropy allows families to establish a lasting legacy that reflects their values and commitment to societal good.

  • Engaging the Next Generation: Involving younger family members in philanthropy fosters a sense of responsibility, empathy, and community service.

Effective Philanthropic Planning Strategies

  • Charitable Trusts and Foundations: These allow for structured, sustained giving aligned with the family's values, ensuring a long-term impact.

  • Donor-Advised Funds: Popular in Canada, Donor Advised Funds (or DAFs) provide a flexible, tax-efficient way to manage charitable donations. Donors can make a charitable contribution, receive an immediate tax benefit, and recommend donations to charitable organization from the fund over time.

  • Impact Investing: This approach involves investing in ventures that generate social or environmental benefits alongside financial returns. It’s a powerful way to align investment strategies with philanthropic goals.

It’s Never Too Early to Plan Your Wealth Transfer

Intergenerational wealth transfer and philanthropic planning are essential to building and preserving family legacies. By combining sound financial strategies with a commitment to philanthropy, families can ensure their wealth sustains future generations and contributes to a greater good.

At Parkyn—Doyon La Rochelle, we specialize in implementing personalized strategies that align with your family’s values and goals, ensuring a seamless, impactful transfer of wealth. Working alongside your preferred legal and tax professionals, we make the process efficient and worry-free.

Let us help you secure your legacy and make a lasting difference. Contact us today to learn more about our comprehensive wealth transfer and philanthropic planning services.

For more commentary and insights on investing and personal finance, listen to our Capital Topics podcast and subscribe to never miss an episode. And download your free copy of our popular eBook Seven Deadly Sins of Investing.

Why Financial Planning is Key for Achieving Financial Goals

Why Financial Planning is Key for Achieving Financial Goals

By James Parkyn - PWL Capital - Montreal

The future. As much as we want to predict it, crystal balls remain beyond our grasp. But we can and should plan for tomorrow, especially where our finances are concerned.

American author Alan Lakein captured it best: “Planning is bringing the future into the present so that you can do something about it now.”

As trusted financial advisors for highly successful Canadians, our role at Parkyn—Doyon La Rochelle is to provide you with the right tools and knowledge so that you can achieve their financial goals with confidence – even amid life’s unexpected twists and turns.

And at the heart of our approach to wealth management is financial planning.

What is financial planning?

Financial planning is the process of creating a strategic roadmap to manage and grow wealth for financial security and legacy preservation. This includes assessing current financial status, setting short- and long-term objectives, planning for investment strategies, estate planning, tax optimization, philanthropic endeavors, and risk management. Effective financial planning maximizes wealth, mitigates risks, and prepares for sustained financial success and generational wealth transfer.

Why is financial planning important?

Anyone with financial goals needs a financial plan. After all, without a plan, a goal is just a wish.

Financial and investment planning are critical, because they let you know whether your current actions are within the realm of reasonable
— Morgan Housel, Psychology of Money

Developing a financial plan is not about predicting the future. It’s about determining the best route for achieving the financial goals you want to achieve, based on where you are today and where you want to be in X years. It also considers various courses of action to take based on what might happen along the way.

5 ways a financial plan can help

The Parkyn—Doyon La Rochelle team has devoted the last 25+ years to helping high net-worth clients manage their wealth. From experience, we can confidently say that everyone’s financial goals may vary, but the benefits of having a robust financial plan do not.

Here are the reasons we believe a comprehensive financial plan is essential:

  1. It keeps you focused and motivated: By establishing clear, achievable goals, we can create a detailed roadmap to reach them. This process helps you maintain focus and motivation, ensuring that your actions align with your desired outcomes.

  2. It avoids wasted time and efforts: By breaking down larger goals into smaller, manageable tasks, you can prioritize effectively and avoid wasting time on less important activities.

  3. It makes the most of your resources: Planning helps us allocate a resource like money efficiently to maximize its impact. The investment portfolios we build are always in service of your financial plan objectives.

  4. It avoids potential pitfalls: Through planning, we can identify potential risks and devise strategies to mitigate them. This proactive approach helps you avoid potential pitfalls and prepare for unforeseen challenges.

  5. It keeps you on track: By monitoring your financial results, we can see what aspects of the plan are working well and which ones need adjusting to ensure we hit all your financial targets.

Parkyn—Doyon La Rochelle’s financial planning services

At Parkyn—Doyon La Rochelle, we take a holistic view to financial planning, meaning we look at all aspects of your financial life as a whole. Together with you, we develop with you a comprehensive, well-prepared plan that’s focused on your goals, with safety margins built-in so that you can achieve these goals more confidently. 

Here’s how we assist you in preparing for life’s significant financial milestones.

  • Tax planning: Our team is well-versed in tax laws and regulations and collaborates actively with your accounting and legal specialists to provide strategic tax planning services to optimize your financial position. We assess your unique situation, identifying opportunities to minimize tax liabilities while maximizing savings and investments.

  • Insurance planning: We work with external insurance specialists, who will assess your risk management requirements and recommend suitable coverages to safeguard your financial interests.

  • Estate planning: We collaborate with external legal specialists to help you navigate the intricacies and ensure your assets are distributed according to your wishes while minimizing tax implications.

  • Retirement planning: We provide asset projections, cash flow analysis, sustainability reviews, and pension plan evaluations to ensure a secure and sustainable retirement journey.

  • Education funding strategies: We assist you in planning future educational expenses. We offer solutions for savings and investment strategies to ensure educational goals are met affordably and effectively.

  • Support for incorporated individuals: We help business owners and incorporated professionals such as doctors optimize their financial situation. We tailor strategies with experts to reduce tax burdens, optimize financial efficiency, and balance both personal and business goals.

How can you know if your financial plan will be successful?

Part of the responsibility of any financial advisor is to stress-test your financial plan to evaluate its resilience in different scenarios.

A plan is only useful if it can survive reality. And a future filled with unknowns is everyone’s reality. A good plan doesn’t pretend this weren’t true; it embraces it and emphasizes room for error
— Morgan Housel, Psychology of Money

Here are some stress-test methods we use:

  • Scenario planning: We consider different scenarios that could impact your finances, both positive and negative, to see how your plan would adapt to these situations.

  • Monte Carlo simulation: We use complex computer simulations that run your financial plan through thousands of possible future market conditions. This tells us the probability of your plan succeeding under different circumstances.

  • Sustainable withdrawal rate testing: This involves estimating a safe withdrawal rate from your savings in retirement, i.e. how much money you can safely spend every year and not run out of money. We can help determine a sustainable withdrawal rate for your situation.

  • Regular review and updates: Your financial situation and goals will change over time. Through regular reviews, we’ll update your plan to reflect your current circumstances to ensure you remain on track to reaching your goals.

The financial plan we create for you offers guidance and a clear action plan for today, ensuring you can confidently navigate whatever challenges tomorrow may bring.

Your customized financial plan begins with a call

For more commentary and insights on investing and personal finance, listen to our Capital Topics podcast and subscribe to never miss an episode. And download your free copy of our popular eBook Seven Deadly Sins of Investing.

Hedge Funds—Facts Versus Hype: What the Data Shows

Hedge Funds—Facts Versus Hype: What the Data Shows 

By James Parkyn - PWL Capital - Montreal

Studies reveal high fees, lack of transparency and limited diversification benefits

High-net worth Canadians are often approached by advisors trying to sell them on alternative investments such as hedge funds. Such investments are usually promoted as a way to increase returns and reduce the volatility of a portfolio.

It may sound interesting at first blush, but what does the evidence say? Data on hedge funds suggests investors should exercise extreme caution and skepticism, according to Raymond Kerzerho, PWL’s Senior Researcher.

Raymond wrote a detailed three-part series about hedge funds for the CFA Institute’s prestigious “Enterprising Investor” blog in February and March. Raymond reviewed numerous studies about hedge funds for the series. His conclusion: Stay away.

 

“A black box”

Raymond’s article headings reveal some of the reasons for caution: “The returns aren’t great,” “The diversification benefits are limited,” “The fees are way too high.”

Another concern, Raymond reported, is that hedge funds tend to have complex, hard-to-understand fees and to be opaque about their investing strategies. This makes it harder for clients to gauge the benefits and costs of investing. “It’s what we call a black box,” Raymond says.

For our podcast episode #73, Raymond sat down to discuss his findings. Here are the main takeaways.

 

What is a hedge fund?

Hedge funds are investment pools that typically promise high returns in any market environment. They use complex and often aggressive strategies to achieve returns that they generally tout as being uncorrelated with traditional asset classes. The funds promote the idea that such uncorrelated returns can offer diversification benefits to a portfolio.

Hedge funds are usually accessible only to institutions and accredited (high-income) investors. In 2019, they managed USD $6 trillion in assets (compared to USD $69 trillion under management by mutual funds worldwide).

 

How do hedge funds work?

Various hedge funds use dozens of strategies to try to achieve their returns. These can include use of leverage (borrowed money), derivatives (futures and options) and short selling (a strategy to profit when an asset declines in price).

Most of the strategies can be grouped into three categories.

Relative value—This strategy combines long and short positions in highly correlated stocks. For example, a fund may buy shares of a bank while selling short shares of a different bank. The idea is to profit off price discrepancies and reduce risk.

Event driven—Some hedge funds focus on taking advantage of events, such as merger announcements. They may, for example, take a long position in the stock of the target company, while shorting the acquirer.

Directional—This strategy involves taking a bet on stocks, commodities, currencies or other assets.

Do hedge funds deliver the claimed benefits?

Hedge funds generally offer mediocre returns, according to the research. One study in the Journal of Financial Economics found that hedge fund investors had annualized dollar-weighted returns that were 3% to 7% lower than corresponding buy-and-hold fund returns, largely because of poor timing of investors’ inflows and outflows.

“The real alpha of hedge fund investors is close to zero. In absolute terms, dollar-weighted returns are reliably lower than the return on the Standard & Poor's (S&P) 500 index,” the study said.

Hedge funds may also offer less diversification than expected. A paper in the Financial Analysts Journal estimated that the correlation between the Hedge Fund Research Weighted Composite Index and the S&P 500 Index was 0.89 from 2010 to 2020.

The best hedge funds can generate excess return and diversification, but high fees absorb a significant part of the excess returns of even these funds. Holding several hedge funds amplifies the impact of performance fees. One study found that managers may end up with as much as 64% of the gross profit in a diversified portfolio of hedge funds.

It’s also very difficult to predict which hedge funds will deliver superior results. The data shows that there is limited “persistence” in hedge fund returns. In other words, there’s little evidence that a hedge fund which has performed well in the past will keep doing so in future.

How do hedge fund fees work?

A typical hedge fund charges a base fee and a performance fee. The base fee can be 1.5 to 2% of assets, while the performance fee may be 20% of the profit of the hedge fund.

In the past, many hedge funds had what was called a “hurdle rate”—a certain threshold of profit that the hedge fund had to earn (for example, the T-bill rate of return) before it started to charge the performance fee. Today, the vast majority of hedge funds—86%—do not have a contractual hurdle rate for performance fees.

Many hedge funds also have a high watermark. This is a level of the fund’s net asset value above which the hedge fund is allowed to charge performance fees. The idea of the high watermark is that the fund can levy performance fees only on new profits. If the fund loses value, it can’t charge performance fees until it has returned to the high watermark.

But one third of hedge funds don’t have a high watermark. This means they can charge performance fees even if their net asset value has fallen.

How transparent are hedge funds?

Hedge funds have a lot of discretion about what they disclose. They’re generally reluctant to reveal much about their investing strategies, claiming they don’t want to reveal competitive information.

This lack of transparency is a red flag. “Financial firms can make complex products look attractive by exploiting investors’ cognitive biases,” Raymond notes. “As economist John Cochrane once said: ‘The financial industry is a marketing industry, 100%.’ Investors beware.”

As Raymond elaborated in the podcast, “When you’re talking about an advisor working for the product manufacturer, I wouldn’t call that an advisor. I would call them a salesperson.”

 

What’s the final verdict on hedge funds?

Think twice about hedge funds. “I think if you’re not a multi-billion-dollar institution, the chances of improving your financial outcome with hedge funds are very close to zero,” Raymond says.

His advice is to stay focused on a long-term investing strategy with low fees and transparent holdings. “I generally recommend sticking to stocks and bonds,” Raymond writes. “Financial success depends on disciplined saving and investing, not fancy investment products and high returns.”

Read more commentary and insights on personal finance and investing in our past blog posts, eBooks and podcast on the website of PWL Capital’s Parkyn-Doyon La Rochelle team and on our Capital Topics website

Find the three-part series about hedge funds that PWL Senior Researcher Raymond Kerzerho wrote for the CFA Institute here, here and here.

TAKE ADVANTAGE OF THE EXPERTISE OF JAMES PARKYN, Portfolio Manager at PWL Capital Montreal to determine the best solution for you.

Lessons of 2024—five truths for investors

Lessons of 2024—five truths for investors 

By James Parkyn - PWL Capital - Montreal

What the past year revealed about forecasts, timing the market and diversification  

The markets are a wonderful teacher. If we pay attention, they provide fascinating lessons about investing.

Our friend and author Larry Swedroe put it nicely. “With great frequency, markets offer remedial courses covering lessons they taught in previous years,” he wrote.

“That’s why one of my favorite sayings is that there’s nothing new in investing, only investment history you don’t know.”

With these wise words in mind, let’s take a look at our five main lessons from 2024. Spoiler: It may not come as a surprise that all of this year’s lessons can be found in our lessons from 2022 and 2023.

 

Lesson #1: No one can forecast the markets.

Market forecasters from major financial institutions had a terrible record last year. This is nothing new. They also had a poor record in 2023 and the year before that. The lesson here: Don’t pay attention to the annual caravan of  forecasts and outlooks for the coming year.

It is true that occasionally a handful of forecasters can get it right—generally thanks to sheer luck. Even a broken clock is correct twice a day. That doesn’t mean those analysts’ predictions will be correct in future. No one can consistently predict the markets. Our advice is to tune out the noise and stay focused on your long-term investing success.

 

Lesson #2: Valuations don’t help you time the markets.

After two years of outstanding back-to-back gains for equities, some investors have grown nervous about excessive valuations. But such past periods don’t give solid clues about what to expect this year.

As markets hit repeated new highs last year, they continued to soar—hitting higher highs again and again. Research shows that stock markets don’t necessarily underperform after new highs. “There are no crystal balls allowing us to foresee exactly when each shift will occur [from outperformance to underperformance],” Larry Swedroe recently wrote.

That said, it is a good idea to periodically review your holdings and rebalance them to stay aligned with your target allocations. Speak with your advisor about this process. At PWL, we have such conversations regularly with our clients.  

 

Lesson #3: Active management is a loser’s game.

Just 4% of companies were responsible for all stock market wealth creation above risk-free Treasuries from 1926 to 2023, according to an eye-opening study by Arizona State University finance professor Hendrik Bessembinder.

How do you pick the winning stocks of the future? You can’t. “Picking stocks is more like gambling than investing,” says David Booth, co-founder of Dimensional Fund Advisors.

But you don’t need to find the winners if you simply buy the whole market through an index fund. That way, you can be sure to benefit no matter which companies gain. As Vanguard founder Jack C. Bogle puts it: “Don’t look for the needle, buy the haystack.”

Lesson #4: Diversification works.  

U.S. stocks outperformed their international and Canadian counterparts in 2024. Does that mean diversification no longer works? Of course not. Some sector or country always does better in any given year. We just can’t know ahead of time which one.

Instead of rolling the dice, we must remember why we diversified our portfolios in the first place—to reduce risk while maintaining long-term expected returns.

Research supports this approach. In a paper titled “International Diversification—Still Not Crazy After All These Years” in The Journal of Portfolio Management, the authors concluded that international diversification “does a pretty great job of protecting investors over the long term…. The long-run case for it remains relevant. Both financial theory and common sense favor international diversification.”

Lesson #5: Sticking to your plan paid off in 2024. 

Sticking to your investing plan pays off. Investors who held onto their broadly diversified portfolios through the volatility of recent years were handsomely rewarded in 2024.

The lesson? Invest based on long-term planning—not emotions. Imagine if you had quit the markets early because of the volatility. “Pessimism always sounds smarter than optimism,” Morgan Housel, author of the book The Psychology of Money, wrote, “because optimism sounds like a sales pitch while pessimism sounds like someone trying to help you.”

The markets in their wisdom are continually providing valuable lessons. It’s up to us to notice them and learn from them. This allows us to greet with confidence and discipline whatever may come in 2025. 

Read more commentary and insights on personal finance and investing in our past blog posts, eBooks and podcast on the website of PWL Capital’s Parkyn-Doyon La Rochelle team and on our Capital Topics website.  

TAKE ADVANTAGE OF THE EXPERTISE OF JAMES PARKYN, Portfolio Manager at PWL Capital Montreal to determine the best solution for you.