Investors Can Receive Best Returns With Smallest Asset Managers, Research Shows

(July 29, 2011) – New research from Russell Investments shows that global equities managers with fewer staff and funds under management outperform larger management teams in charge of more capital, according to Top1000Funds.

The research was gathered from 233 global equities managers that are part of Russell’s Global Equities Universe. According to Peter Gunning, Russell’s global chief investment officer, the findings are consistent with a long-established hypothesis that asset managers with fewer assets perform better than those with larger assets.

Even before the research was revealed, pension funds took stock in the hypothesis: DowJones’ Financial News reported that the California Public Employees’ Retirement System (CalPERS), the largest pension fund in the US, was continuing an initiative first started in 2000 to invest in small asset managers that the fund thought had promising growth prospects. In April, the pension giant acquired a 17.5% stake in boutique French asset manager Tobam, a former Lehman Brothers affiliate.

The research from Russell looked at average five-year annualized returns for managers, broken down by number of staff and by asset size. Returns for managers with five of fewer staff members averaged 2.58% better than Russell’s Global Large Cap Developed universe as a whole, while funds with six to ten staffers achieved 1.77% excess return. Meanwhile, funds with more than 30 staff members had returns 0.03% lower than the universe as a whole.

A similar trend occurs when asset managers are broken down by asset size. Those who manage under $2 billion experienced 1.96% excess return and those who manage between $2 and $5 billion had excess returns of 1.21%. Funds managing over $5 billion had negative excess return that increased in magnitude when funds topped $15 billion.

Gunning attributed the trends to newer – and thereby smaller – funds’ more aggressive investment as they try to establish success. Paradoxically, once funds find success and have more investors, they become more concerned about risk exposure and the high returns that attracted investors often disappear.

“When you actually look at many asset managers when they first set up shop…in the main there is this window of opportunity where these managers typically perform very well relative to their peers,” Gunning said. “As the firm matures, maybe it attracts more assets, maybe the principals are beginning to become a little more concerned about ongoing business risk rather than investment risk, so we often see a period where these boutique managers start to move in-line with their peers.”