As we typically do each quarter, today we revisit the debate between active and passive management by looking at how passive indices have fared across several different markets – US large cap equity, US small cap equity, international developed equity, emerging market equity, and US fixed income – over both the short- and long-term.
As we typically do each quarter, today we revisit the debate between active and passive management by looking at how passive indices have fared across several different markets – US large cap equity, US small cap equity, international developed equity, emerging market equity, and US fixed income – over both the short- and long-term.
Thus far 2025 has provided us with a good opportunity to evaluate active vs passive management as we’ve experienced a major drawdown and subsequent recovery. One of the arguments in favor of active management is that active managers will outperform in down markets. The tariffs that were a major contributor to the downturn had been anticipated for some time, potentially allowing managers to position their portfolios accordingly.
The key determinant of which style, active or passive, is superior is market efficiency. Market efficiency describes the degree to which asset prices quickly and rationally adjust to reflect new information. In highly efficient markets, new information is quickly incorporated into prices, and therefore it is not possible to consistently achieve above-average risk-adjusted returns in these markets. Therefore, due to their lower cost, investors are better off utilizing passive strategies in highly efficient markets. In less efficient markets, on the other hand, the opportunity exists for skilled active managers to outperform passive strategies, thereby adding value for clients.
The active vs. passive debate often focuses on large-cap U.S. equities, which is a natural starting point for the discussion – the large-cap U.S. equity market is composed of the most well-known companies in the world and represents a large portion of many retirement portfolios. However, if we stop there, we ignore what should be an obvious and fundamental element of the discussion – the various markets around the globe are unlikely to all be equally efficient. The very fact that U.S. large-cap companies are the most visible and researched firms in the world suggests that the U.S. large-cap equity market is likely to be more efficient than its less well-known counterparts! It is because of the variation in efficiency that the merits of active versus passive management should be evaluated on a market-by-market basis.
On the surface, the debate between active and passive may seem academic. However, it has practical implications for advisors. Most importantly, you want to do what is in the best interest of your client. If your client is best served by using low-cost passive funds because active management truly doesn’t add value, then so be it. However, utilizing only passive funds eliminates one of your value propositions as an advisor – evaluating and selecting funds – and removes any possibility of outperformance, so, from a business perspective, it is probably preferable to keep at least some active management in the mix.
The tables below show the quarterly, year-to-date, and rolling five-year return rankings of several well-known indices (representing passive management). If the index ranks in the top two quartiles, then it outperformed most managers within the peer group during that period. Conversely, if the index ranks below the 50th percentile, then most active managers in that universe outperformed the benchmark. Looking at the rankings over time, we can get a feel for which markets are the most efficient, and thus are likely to favor passive management, and which are the least efficient, offering the greatest opportunity for active managers.
The earliest five-year period in our long-term rankings began in March 2016 and the most recent period ended June 30, 2025. During that time, we have experienced several different market environments and market-shaping events from the calm of 2017 to the volatility of 2020 and the tariff-driven drawdown this year. So, we have a good cross-section of market states upon which to base our conclusions.
Large Cap US Equities
As has generally been the case over the long-term, the S&P 500 (SPX) was a challenging benchmark for active managers in 2Q25 as the index finished above the 50th percentile. There is some evidence that active managers successfully positioned their portfolios ahead of the sell-off in US stocks as the S&P finished the first quarter in the third quartile of our rankings. If that was the case, however, active managers were less successful in in anticipating and positioning for the recovery as most underperformed the benchmark in Q2. Through the second quarter, the S&P 500 sits right around the 50th percentile mark, suggesting that active managers have had more success against the benchmark this year than over the long term as the S&P has finished in the top half of the rankings in every rolling five-year period in our lookback window.
Small Cap US Equities
Like their US large cap counterparts, most active small cap managers underperformed the benchmark in the second quarter. The Russell 2000 finished in the second quartile of the rankings after finishing Q1 below the 50th percentile, perhaps suggesting that active small cap managers were also caught off guard by the stocks’ swift rebound. Like the S&P 500, the Russell 2000 now sits near the 50th percentile year-to-date. However, unlike the large cap space, where active managers have struggled against the benchmark, small cap managers have generally outperformed the index as the Russell 2000 finished in the bottom half of the rankings in most of the rolling five-year periods.
Developed International Equities
The MSCI EAFE Index finished around the 50th percentile in the Q1, Q2, and YTD rankings. As the rolling five-year rankings show, this has often also been the case over the longer term, with no clear trend favoring either active or passive management.
Emerging Market Equities
The emerging market benchmark has hovered around the 50th the percentile in the Q1, Q2, and YTD rankings indicating that most managers have kept pace with but struggled to outperform the index in 2025. Over the longer-term. However, the trend has clearly favored active management as the benchmark has finished in the bottom half of the rankings in each of the last 12 rolling five-year periods.
Fixed Income
The US Agg finished the second quarter below the 50th percentile and sits in the bottom half of the rankings year-to-date. The year-to-date results are in-line with the longer-term trend, which has clearly favored active over passive management in fixed income as the Agg has finished in the bottom quartile of the rankings in every rolling five-year period in our lookback window.
