(October 27, 2010) — New research by Northern Trust has shown that smaller investment firms can provide improved returns and better downside protection in volatile markets compared to large firms investing in the same asset class.

“We’ve found that smaller boutique firms tend to be more entrepreneurial and performance-driven, and have consequently been able to produce better returns,” John McCareins, senior investment program manager for Northern Trust Global Investments, told aiCIO. He attributed the greater success of emerging investment managers to 1) crisper decision-making 2) flexibility in implementation 3) focus on performance and 4) appropriate alignment of incentives. “An alignment of incentives, a live or die attitude, where the success of the firm depends on performance, is a strong motivator for smaller managers,” McCareins said.

According to Northern Trust’s research — titled “No Contest: Emerging Managers Lap Investment Elephants” — investment firms with less than $3.6 billion under management that collectively manage 1% of all assets in the institutional market outperformed the largest firms and all other groups studied over the five-year period ending June 30, 2010. Additionally, the research showed that the median small manager outperformed the median large firm by 72 basis points per year, which translates to an advantage of more than $7 million on a typical $200 million institutional allocation over five years.

“Our new study indicates that emerging managers may help investors squeeze more out of their most important, and most challenging, asset class,” said Northern Trust’s Ted Krum said in a statement. “Despite market declines and portfolio reallocations, US equities still make up the largest portion of many institutional client accounts, making this asset class a key driver of performance for institutional investors.”