Chapter 6: Active funds, honestly
Of the actively managed US large-cap funds that spent 2025 trying to beat the S&P 500, 79% finished behind it, after fees. The year before, 65% did (SPIVA, year-end 2025 scorecard). Stretch the window and the picture stops wobbling: over the 15 years ending in 2024, SPIVA tracked 22 categories of US stock funds, and the number of categories in which a majority of active funds beat their own benchmark was zero out of 22.
The full scoreboard, its method, and the deeper reasons live in the Finvest Stocks Guide's Chapter 8, which weighs the same evidence for picking stocks yourself. This chapter does the smaller, more frequent job. You are standing in front of a fund menu, a 401(k) lineup or a brokerage screen, and an active fund, one that pays managers to pick investments rather than track an index, is asking for your money at roughly eight times the index fund's price. The question is what the higher price buys, and it deserves arithmetic instead of a sermon.
The head start
Start with the prices, because they are the only part of the comparison known in advance. ICI's 2025 fee data puts the asset-weighted average expense ratio of actively managed equity mutual funds at about 0.40%, against 0.05% for index equity mutual funds. The active fund therefore begins every year 0.35 points behind, a gap its manager must close before adding a single cent of value. Mara's old fund from Chapter 4 ran the expensive version of this race: 0.95% against 0.04%, a 0.91-point handicap, renewed annually.
The head start renews. A manager brilliant in one year owes the 0.35 again the next. Fees never have an off year, which is the quiet engine behind the SPIVA percentages in the opening paragraph.
The arithmetic of a genuinely skilled manager
Be generous on purpose. Suppose the market returns 7.00% a year, and suppose you find a manager with real, durable skill who beats it by a full point every single year, gross of fees. That is a far stronger record than the data says you should expect, and the example grants it anyway. The fund charges 0.90%, which is 0.85 points more than a 0.05% index fund.
| Gross return | Annual fee | Net to you | |
|---|---|---|---|
| Index fund | 7.00% | 0.05% | 6.95% |
| Active fund with real skill | 8.00% | 0.90% | 7.10% |
| The difference | +1.00 point | +0.85 points | +0.15 points |
Each row is one subtraction: 7.00 minus 0.05 leaves 6.95, and 8.00 minus 0.90 leaves 7.10. The manager delivered a full point of genuine outperformance, and you kept 0.15 of it; the fee kept the other 0.85. On $100,000 your reward for finding one of the rare persistent winners is about $150 in the first year.
Now run the likelier branch. If that manager merely matches the market gross, 7.00 minus 0.90 leaves 6.10, and you trail the index fund by 0.85 points: about $850 per $100,000, again per year. The bet pays $150 when you are right and costs $850 when you are wrong, and SPIVA's tally says wrong was the result for 79% of large-cap funds in 2025 alone. A wager needs better odds than that, or a much better price.
Can you pick the winners in advance?
The natural escape hatch is to buy whoever just won. SPIVA's companion persistence scorecard tests exactly that move: it takes the funds that finished in the top half of their category and checks how many stay in the top half afterward. The repeated finding is that they rarely do, at rates below what random chance would produce, and the share shrinks as the years pass. If past rank carried skill forward, last year's winner list would be a treasure map. Measured honestly, it works worse than flipping coins, which means a great five-year record tells you almost nothing about the next five, except that the fund's marketing department has something to print. Chapter 4 made this the reason star ratings sit among the forty numbers you skip.
When is an active fund a reasonable choice?
In a few corners, the fight is fairer, and honesty requires saying so. US large-company stocks are the most picked-over market on earth, and the zero-of-22 result belongs to US stock funds. In parts of the bond market and in some smaller international corners, prices are set by fewer competing professionals and the fee gap between active and index options runs narrower, so active funds clear their benchmarks somewhat more often. Somewhat is doing honest work in that sentence: the burden of proof lightens, and it never disappears.
The second fair case is behavioral. A fund, or a fund family, whose steady hand keeps an investor invested through a year like 2022 has earned its fee in the only currency that compounds, your staying power. Even here, check the price of the service, because a target-date or balanced index fund delivers the same hand-holding by structure, at index prices, and Chapter 12 builds exactly that. If an active fund is the thing that keeps you from selling bottoms, it can be worth owning; the claim just has to be true about you, in writing, before the fee starts.
Some active funds earn their fee by genuinely differing from the index, right or wrong. Others hug it. If a fund's top ten holdings, sector weights, and year-by-year returns all shadow its benchmark, you are buying the index at active prices, and the head start in Figure 6.1 becomes pure loss with no lottery ticket attached. Chapter 4's line 2 catches this in minutes: put the fund's top ten next to the index fund's top ten and count the matches.
Mara's verdict
Chapter 4 left Mara with a swap order filed and one fairness question open: maybe the 0.95% fund deserved its price. She gave it a hearing on its own evidence. Its top ten holdings matched the index fund's almost line for line, and its returns trailed the benchmark by roughly its fee in every period its own page displayed. So the fund was a closet indexer carrying a 0.91-point handicap it never even attempted to earn back; the race was decided before the gun. Every $10,000 left behind would donate $91 a year for nothing. She completed the exchange, then wrote one sentence in her notes for next time: "If I ever pay active prices again, the fund will have to show me what it does differently, in its holdings, not its brochure."
Where people go wrong
Buying the scoreboard. Last year's winner list and the five-star screen are the same mistake wearing different fonts: persistence runs below chance, so past rank is weather. Price is climate.
Paying active fees for index holdings. The closet index fund is the worst seat in the house, index returns minus active fees, with certainty. Run the top-ten comparison before believing any fund is actually active.
Turning the evidence into a sermon. Some bond and international categories are fairer fights, some managers do earn their keep, and a steady hand has real value. The finding is about odds and prices, never about villains, and overstating it is its own kind of inaccuracy.
Churning toward whoever just won. Morningstar's "Mind the Gap" study found the average dollar in US funds earned 7.0% a year over the 10 years ending December 2024, while the funds themselves returned 8.2%. That 1.2-point gap came mostly from moving money at the wrong times, and switching active funds on recent form is the classic version of the move.
The burden of proof sits with the expensive fund. Before paying over 0.50%, require three things in writing: holdings that genuinely differ from the index, a stated reason the edge should persist, and a fee small enough that the worked example above still pays you when the manager is right. Absent all three, the index wins by default, and the default is correct.
Key takeaways
- SPIVA's year-end 2025 tally: 79% of active large-cap US funds underperformed the S&P 500 in 2025, after 65% in 2024. Over the 15 years ending 2024, zero of 22 US stock fund categories had a majority of active funds beat their benchmark.
- The fee head start renews every year: about 0.40% average active versus 0.05% index (ICI, 2025, asset-weighted), and 0.91 points in Mara's case.
- Even a manager who beats the market by 1 point gross, every year, nets you only 0.15 points after an 0.85-point fee gap: about $150 per $100,000, against an $850 annual cost when the skill fails to show.
- Winners do not stay winners: the persistence scorecard finds top-half funds repeat at rates below random chance, so past rank is not a map.
- The honest exceptions are some bond and international categories and the behavioral value of a steady hand, priced against cheap structural alternatives. Everywhere else, the burden of proof sits with the expensive fund, and the index wins by default.
Sources: SPIVA U.S. Scorecard · SPIVA U.S. Persistence Scorecard · ICI fee trends 2025 (Research Perspective) · Morningstar Mind the Gap · Finvest Stocks Guide