Why most active funds lose to the index

The case against active management is usually made with a chart of past performance, which is the weakest way to make it. The stronger case needs no chart at all, because it follows from accounting. Once costs are included, the average actively managed euro must underperform the average passively managed euro. Not usually. Must.

That is a statement about averages, and it leaves room for a talented manager to win. It also sets the bar that every active fund has to clear before it deserves your money, and the bar is higher than the fee difference suggests.

The arithmetic settles the argument first

Start with everything that is invested. Every share is owned by someone, so all investors together hold the whole market. Before costs, the average euro invested earns exactly the market return, because that is what the market return is.

Then subtract costs. Index funds charge little, active funds charge more, and both are paid out of the same pool of returns. The average actively managed euro therefore earns the market return minus active costs, and the average passively managed euro earns the market return minus passive costs. The gap between them is the cost gap, and no amount of skill changes an average.

This is the argument William Sharpe published in 1991, and it has survived every market since, including the ones where active managers did well. What it does not say is that every active fund loses. What it says is that active funds as a group cannot all win, and that the ones that do must win by more than they charge.

The scorecard across four windows

S&P Dow Jones Indices has been running the same measurement since 2002. Its SPIVA scorecards compare actively managed funds against the index they compete with, and the pattern is stable enough to be boring.

In 2025, 79% of active large-cap US equity funds trailed the S&P 500. That was actually a comparatively good year: the 2024 figure was 65%, and the report describes 2025 as the fourth-worst year for active large-cap managers in the twenty-five year history of the data. The longer the window, the less there is to argue about. Over ten years 85.59% underperformed, over fifteen years 89.93%, and over twenty years 92.89%.

Read the twenty-year line as the honest summary of the industry: roughly one fund in fourteen did what it was hired to do. And even that figure flatters the sector, because a fund that underperformed and closed is removed from the count.

The handicap, in basis points

Percentage points of fee sound small because a portfolio statement expresses them as a decimal. Convert them into the return the manager has to produce and the size of the job becomes obvious.

Say the market returns 7.00% a year. An index fund charging 0.07% hands you 6.93%. An active fund charging 1.45% has to earn 8.38% before costs to hand you the identical 6.93%. That is 138 basis points of extra gross return, every single year, before the manager has done anything for you that you could not have had for the cost of a coffee.

This is the number that makes the persistence question irrelevant. A manager with a genuine edge still has to earn 1.38 points more than the market just to break even against the cheapest available alternative, and that edge has to survive the years when the style is out of favour and the clients are leaving.

What the handicap costs over a working life

Fees are charged on the balance, and the balance compounds, so the cost gap compounds with it. The two funds below earn the same 7% gross, and the only difference between them is what they take out of it.