“A blindfolded chimpanzee throwing darts at The Wall Street Journal could pick a portfolio of stocks that would perform as well as those carefully selected by the highest priced security analysts.” Burton MalkielActively managed funds are supposed to "surf the waves" of the financial markets in your advantage when compared to passively managed index funds that just follow the tide. In exchange for this service, they charge much higher fund expenses (management fees).
Until recently, I had some money invested in actively managed funds. Not anymore. During the recent market downfall, actively managed funds didn't do better than index funds, and when they did better, it was for arbitrary reasons, such as not owning shares of large financial institutions due to fund regulations (see the WSJ on the subject and compare the performance of some of the best funds in the market here). Some researchers have also gathered convincing evidence indicating that actively managed funds indeed fail to outperform cheaper index funds.
As a result, I'm out of actively managed funds until they adopt incentive policies like this one:
Management fees are calculated as a share of the difference between the fund's performance and the performance of a benchmark index fund. If they beat the market, I pay them. If the market beats them, they pay me.
For example, let's say the "Ambassador Aggressively Managed Fund" has a return in 2009 of 20%. The chosen benchmark fund is the S&P 500, which let's assume has a return 0f 18% (dream on). They get 25% of the difference, meaning, I pay them 0.5% as management fees. On the other hand, if the fund's performance is only 16%, they pay me 0.5% as compensation fee for not investing my money wisely.
Until managed funds adopt compensation policies like the one above, they can say bye-bye to my hard-earned pennies (HT to Anil for the post idea).