A staggering 96% of UK large and mid-cap equity funds underperformed the S&P UK LargeMidCap benchmark in the first half of 2022 as active managers look to “spice” up their portfolios by stock picking further down the market cap.

According to the mid-year S&P Dow Jones Indices’ (SPDJI) 2022 SPIVA Europe Scorecard, the figure was even worse over a 12-month period, where 98% of UK large and mid-cap funds failed to beat the benchmark.

SPDJI said it follows a period of challenging market conditions for UK large-cap managers, leading them to fish further down the market cap.

Highlighting this, the index provider said there is an 88% correlation between when active UK large-cap managers underperform and the relative return between UK large-cap indices and small-cap indices.

Speaking to ETF Stream, Benedek Voros, director of index investment strategy at SPDJI, said: “The data shows essentially that UK large cap managers have had exposure to small-cap stocks.”

The deviation of large-cap funds from their mandate is more surprising given the S&P UK LargeMidCap was the only European index to perform positively across Europe over H1 2022, returning 0.4% due to its large sector weights to energy and materials.

In contrast, the S&P UK SmallCap index returned -21.8% with just 57% of managers underperforming the benchmark.

Tim Edwards, managing director for index investment strategy at SPDJI, said: “If you are an active manager in that space and you were stock picking within large-cap UK equities that is one thing, however, if you were deviating outside of that, everything else did not just decline, it declined materially.”

As well as large-caps funds’ high underperformance rate, their average return was also much lower at -6% versus the benchmark.

According to Edwards, this deviation was also apparent for European investment managers on a regional mandate.

Roughly 84% of pan-European active managers underperformed their benchmark, compared to just 58% of Eurozone equity asset managers, despite the S&P Europe 350 (-13.2%) outperforming the Eurozone BMI (-18.4) by 5.2%.

Voros said: “Eurozone managers have ventured outside of the strictly Eurozone countries which have performed better. For example, the main one being the UK but also smaller markets such as Denmark and Switzerland with the latter outperforming the Eurozone by over 8%.”

The underperformance is also stark given the elevated dispersion of indices which provided opportunities for top-down or bottom-up stock pickers.

Sweden, for example, returned -28.3% in local currency terms versus the UK’s large and mid-cap return of 0.4%.

Away from Europe, US-based active managers faired significantly better, with 51% underperforming their benchmark year to date, and are on track to record their best SPIVA rating in almost a decade.

By comparison, European-based fund managers investing in US stocks fared much worse with 70.6% of active funds underperforming their benchmark.

Edwards said this could in part be down to the advantage of US domestic managers investing in their home market, however, more significantly, he puts it down to currency hedging.

“If you hedge your currency exposure in the US this year that has hurt you. It has been one of the top three worst years for sterling in the last 20 years and the pound does not buy a lot of US dollars anymore,” he said.

“That is probably playing a role on the performance rate of US-focused managers in sterling.”

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