The US funds beating the S&P 500 over the short and long term

The S&P 500 is tough to gain an edge on, but our research finds there are some funds that have consistently beaten the index. 

The S&P 500 index is notoriously difficult for fund managers to consistently beat, given that it is the most widely researched and followed index.

Gaining an edge has been a tougher challenge over the past couple of years due to a handful of stocks – the big tech giants – dominating the performance of the index. The four largest stocks in the S&P 500 represent just under a fifth of that index: Apple (NASDAQ:AAPL), Microsoft (NASDAQ:MSFT), Alphabet (NASDAQ:GOOGL) and Amazon (NASDAQ:AMZN). 

While it is true that most US active funds do tend to underperform over short and long-term periods, some active funds have delivered.

•  Invest with ii: Top US Stocks | US Earnings Season | Open a Trading Account

Using data from FE Fundinfo, interactive investor crunched the numbers to see which US funds outperformed the S&P 500 index over one, three, five and seven years (all figures to 22 May 2022). We used the Investment Association’s (IA) North American sector, which seven years ago contained 111 active funds.

Over seven years, we found that 53 of the 111 funds had beaten the index, so just under half. Of those 53 funds, the number fell to 44 when the five-year time period was included.

When the two shorter time periods were introduced, the number of successful funds dropped sharply, with 29 funds managing to maintain an edge over three years. Of those 29 funds, only 10 had also managed to beat the S&P 500 over one year.

• 15 cheap shares value fund managers are backing 
• Recessions are becoming more likely – here’s how to invest
• Why value funds are losing money this year
• Top 10 things you need to know about investing in the US

We ran the same exercise just over a year ago. At the time, more funds were successful: a total of 24.

As with our research last year, it is worth pointing out that this does not take into account survivorship bias. Seven years ago, there would have been more than 111 US active funds in the sector and some have closed, while others merged.

In a number of cases, as the table below shows, as well as demonstrating consistency across those four time periods, a number of funds have outperformed notably over the long term.

Therefore, gains in excess of the S&P 500 and passive strategies tracking the index can be achieved. The trade-off, of course, is that most US active funds did not consistently gain an edge over both short and long time periods.  

US active fund winners 

All data to 22 May 2022. Source: FE Fundinfo. Past performance is not a guide to future performance.

Potential downsides of passives as tech runs out of steam

Up until six months or so ago – when the market rotation away from high-growth shares and towards value shares started to gather pace ­­– the strong performance of big tech benefited investors in exchange-traded funds (ETFs) and index funds. As the stocks went up, so did their weightings in the index, including Facebook, now called Meta Platforms (NASDAQ:FB).  

For active funds, the heavily skewed performance of big tech has proved a headwind for those “underweight” those companies.

• What does a fund manager do to try and beat the market? 
• Is a passive fund the best way to invest? 

Going forward, while it is early days, expectations are that there will be a broader set of companies influencing the performance of the index in response to high inflation and increases in interest rates. Given this market backdrop, such companies are less attractive for investors to own, and this gives active fund managers an opportunity to prove their worth.

Index funds and ETFs, due to their weighting towards stocks that have already seen strong share price rises, have greater weightings towards higher-priced stocks and lower weightings to stocks that are cheaper and potentially underpriced.This is the main downside of the market-cap weighted index, which is the approach that most passive funds follow.

Aside from active funds, another option is picking an index fund or ETF that follows an equally weighted index. This means that each member of the index accounts for the same percentage. So, in an index of 100 stocks, each would receive a 1% weighting. Several index providers offer these, and one example is the Xtrackers S&P 500 Equal Weight ETF (LSE:XDEW).