Skip to main content
diversification.com
← Back to A Definitions

Active share

What Is Active Share?

Active share is a quantitative measure that quantifies the percentage of a portfolio's holdings that differ from its specified benchmark index. It falls under the broader category of investment management and provides insight into how actively a fund manager is truly managing a portfolio. A fund with an active share of 0% indicates that its holdings perfectly replicate the benchmark, essentially making it a passive fund. Conversely, a fund with an active share of 100% means it has no overlap with its benchmark index, representing a highly active management approach82, 83, 84. This metric is crucial for investors evaluating mutual funds and other managed portfolios, as it helps distinguish genuinely active strategies from those that closely mimic an index while still charging active management fees, a practice sometimes referred to as closet indexing81.

History and Origin

The concept of active share was introduced by Martijn Cremers, then of Yale School of Management and now the University of Notre Dame, and Antti Petajisto, then of Yale and now New York University. They formally presented the measure in their seminal 2009 paper, "How Active Is Your Fund Manager? A New Measure That Predicts Performance," published in the Review of Financial Studies.75, 76, 77, 78, 79, 80 Their research aimed to provide a more robust method for assessing the degree of active management than traditional measures like tracking error. The study analyzed over 2,600 domestic equity funds from 1980 to 2003 and found that funds with high active share, particularly those with 80% or more, tended to outperform their benchmarks both before and after fees. This groundbreaking work quickly gained traction in the financial industry, becoming a widely discussed metric for fund evaluation and manager appraisal.

Key Takeaways

  • Active share measures the percentage of a portfolio's holdings that are different from its benchmark index.
  • A higher active share generally indicates a more truly active investment strategy, while a lower score may suggest "closet indexing."73, 74
  • It was developed to help investors identify actively managed funds that genuinely diverge from their benchmarks.
  • Active share values typically range from 0% (perfectly tracking the index) to 100% (no overlap with the index).72
  • While initially touted as a predictor of outperformance, subsequent research has presented a more nuanced view regarding its direct correlation with future returns.70, 71

Formula and Calculation

Active share is calculated by summing the absolute differences between the weights of each security in the portfolio and the weights of the same securities in the benchmark index, and then dividing the result by two. The division by two prevents double-counting the differences, ensuring the measure ranges from 0% to 100%.66, 67, 68, 69

The formula for active share is:

Active Share=12∑i=1N∣wpi−wbi∣×100%\text{Active Share} = \frac{1}{2} \sum_{i=1}^{N} |w_{pi} - w_{bi}| \times 100\%

Where:

  • (w_{pi}) = the weight of security (i) in the portfolio
  • (w_{bi}) = the weight of security (i) in the benchmark index
  • (N) = the total number of securities in the combined universe of the portfolio and the benchmark

For securities present in the portfolio but not in the benchmark, (w_{bi}) is considered 0. Conversely, for securities in the benchmark but not in the portfolio, (w_{pi}) is considered 0.65 This calculation provides a clear numerical representation of a fund's deviation from its comparative index. It is important to consider the underlying security analysis when comparing weights.

Interpreting Active Share

Interpreting active share involves understanding what different scores imply about a fund's approach to portfolio management.
Generally:

  • 0-20% Active Share: Often considered indicative of a passive investment strategy or "closet indexing," where the fund closely mirrors its benchmark.63, 64
  • 20-60% Active Share: Suggests a moderate level of active management, potentially still with significant overlap with the benchmark.62
  • 60-100% Active Share: Points to a truly active approach, where the fund's holdings significantly diverge from the benchmark.60, 61

A high active share indicates that the manager is taking meaningful, conviction-based bets relative to the index, potentially demonstrating genuine stock picking skill. However, a high active share alone does not guarantee superior returns, nor does it inherently imply better risk management. It is a measure of difference in holdings, not necessarily skill or performance57, 58, 59. Investors should consider active share in conjunction with other metrics and a manager's stated investment strategy.

Hypothetical Example

Consider two hypothetical large-cap U.S. equity funds, Fund A and Fund B, both benchmarked against the S&P 500.

S&P 500 (Benchmark)

  • Apple (AAPL): 7%
  • Microsoft (MSFT): 6%
  • Amazon (AMZN): 5%
  • Tesla (TSLA): 3%
  • Other 496 stocks: 79% (each less than 1%)

Fund A Portfolio

  • Apple (AAPL): 7%
  • Microsoft (MSFT): 6%
  • Amazon (AMZN): 5%
  • Tesla (TSLA): 3%
  • Google (GOOGL): 4% (not in benchmark top holdings)
  • Facebook (META): 2% (not in benchmark top holdings)
  • Other S&P 500 stocks: 68% (closely matching benchmark weights)
  • Non-S&P 500 stocks: 5% (e.g., small-cap companies)

Fund B Portfolio

  • Apple (AAPL): 2%
  • Microsoft (MSFT): 1%
  • Amazon (AMZN): 1%
  • Tesla (TSLA): 0%
  • Google (GOOGL): 10%
  • Facebook (META): 8%
  • NVIDIA (NVDA): 7%
  • Various small-cap and international stocks: 71% (none in S&P 500)

Calculating Active Share for Fund A:
Let's consider just the major differences. Fund A closely mimics the top holdings. The main differences come from the small non-S&P 500 allocation and minor over/underweights in the "Other S&P 500 stocks."
Sum of absolute differences for top holdings: (|7-7| + |6-6| + |5-5| + |3-3| = 0).
The active share for Fund A would be relatively low, perhaps around 10-15%, primarily due to the 5% allocation to non-benchmark stocks and slight deviations in the "Other" category. This suggests Fund A is largely a passive fund or a closet indexer.

Calculating Active Share for Fund B:
Differences for top holdings:
(|2-7| = 5)
(|1-6| = 5)
(|1-5| = 4)
(|0-3| = 3)
Google: Fund B holds 10%, benchmark 0% (assuming it's not in top 500 or has minimal weight). Difference (|10-0| = 10).
Facebook: Fund B holds 8%, benchmark 0%. Difference (|8-0| = 8).
NVIDIA: Fund B holds 7%, benchmark 0%. Difference (|7-0| = 7).
And a large 71% in non-S&P 500 stocks means 71% active component for that part (as benchmark weight is 0%).
The sum of absolute differences would be very high. Dividing by two, Fund B would likely have an active share of 80% or more. This indicates a highly active manager with a distinct investment philosophy and significant deviation from the benchmark.

Practical Applications

Active share serves as a valuable analytical tool in several practical applications within the investment world:

  • Fund Selection: Investors and financial advisors can use active share as an initial screening tool to identify funds that are genuinely attempting to deviate from their benchmarks. This helps in avoiding "closet indexers" that charge active management fees but provide returns highly correlated with a passive index.55, 56
  • Manager Due Diligence: For institutional investors and fund allocators, active share provides a quantitative metric to assess the degree of active bets a manager is taking. It helps in evaluating if a manager is true to their stated investment style and commitment to active management.
  • Performance Attribution: While not a direct measure of skill, active share can be used in conjunction with other performance attribution metrics to understand the sources of a fund's returns. A high active share implies that any outperformance (or underperformance) is more likely due to the manager's specific stock selection decisions rather than broad market movements.53, 54
  • Regulatory Scrutiny: The concept has even attracted the attention of regulators, who may use it to identify funds that claim to be active but are, in essence, charging for passive exposure.52
  • Across Asset Classes: While most commonly applied to equity funds, active share can also be adapted for other asset classes like fixed income or alternative investments, measuring deviation from their respective benchmarks.50, 51

Research exploring the practical implications of active share for portfolio management, including its use in fund selection and manager performance appraisal, delves into its merits and limitations across various markets and investment strategies.49

Limitations and Criticisms

Despite its widespread adoption, active share has faced several limitations and criticisms:

  • No Guarantee of Outperformance: Perhaps the most significant criticism is that a high active share does not inherently guarantee superior investment performance or the generation of alpha. While initial studies suggested a positive correlation, later research has presented a more mixed picture, with some finding no predictive power for returns when controlling for benchmarks or other factors.42, 43, 44, 45, 46, 47, 48
  • Benchmark Dependency: The value of active share is highly dependent on the chosen benchmark. A fund might appear highly active against a broad market index but less so against a more specialized or niche index. This makes cross-fund comparisons challenging if different benchmarks are used.40, 41
  • Market Universes: Active share can be influenced by the structure of the market itself. Funds investing in sectors with many small, dispersed companies (like small-cap stocks) may naturally have higher active share scores than those investing in concentrated markets dominated by a few large companies (like large-cap stocks), even if their active management intent is similar.37, 38, 39
  • Does Not Account for Risk: Active share measures the difference in holdings but does not directly account for the risk taken to achieve that difference. A high active share fund could take on significant unintended risks, such as higher concentration risk or specific factor exposures, which may not translate to desirable returns.34, 35, 36
  • Higher Fees: Funds with higher active share often come with higher expense ratios due to the greater research and trading costs associated with active management. This can significantly erode any potential outperformance, leading to lower net returns for investors.31, 32, 33 Some analyses indicate that after fees, the link between high active share and outperformance diminishes or disappears.30
  • Skill vs. Luck: The broader debate in financial economics continues regarding whether active managers consistently possess the skill to outperform or if success is largely attributable to luck. While some research suggests persistent skill among top managers, the highly competitive nature of the markets often means this skill is "competed away," with investors not necessarily benefiting from it.26, 27, 28, 29

Academic institutions like AQR Capital Management have published papers challenging the predictive power of active share, particularly when applied to strategies like factor investing, which inherently aim for different exposures without necessarily seeking high active share against a broad market index.25

Active Share vs. Tracking Error

Active share and tracking error are two distinct but complementary metrics used in portfolio analysis to evaluate active management. While both aim to quantify how much a portfolio differs from its benchmark, they measure different aspects.

Active Share focuses on the holdings of a portfolio. It measures the percentage of a fund's security holdings that deviate from those of its benchmark index. It is a snapshot in time, reflecting the current composition of the portfolio. A fund with high active share is fundamentally different from its benchmark in terms of its underlying investments.22, 23, 24

Tracking Error, also known as active risk, measures the volatility of the difference between a portfolio's returns and its benchmark's returns over a period. It is a backward-looking, return-based metric that quantifies the inconsistency or dispersion of relative performance. A high tracking error indicates significant deviations in returns from the benchmark, implying higher relative risk.19, 20, 21

The key distinction lies in what they measure: active share looks at what the fund holds, while tracking error looks at how the fund's returns diverge. A fund could have a high active share but a relatively low tracking error if its differentiated holdings behave similarly to the benchmark, perhaps due to effective risk controls. Conversely, a fund with low active share (e.g., a "closet indexer") could still exhibit high tracking error if its small deviations lead to significant return volatility, perhaps from concentrated bets that go awry.17, 18 Investors can use both metrics to gain a more comprehensive understanding of a fund manager's active management approach and the associated risks.15, 16

FAQs

What is a "good" active share percentage?

There isn't a universally "good" active share percentage, as it depends on the fund's stated objective and the market it operates within. However, an active share of 60% or higher is generally considered to indicate a high degree of active management and a significant divergence from the benchmark. Below 20% often suggests a passive or "closet indexing" approach.12, 13, 14

Does high active share guarantee outperformance?

No, a high active share does not guarantee outperformance. While the original research suggested a positive correlation between high active share and outperformance, subsequent studies have questioned this predictive power, especially after accounting for fees and specific market conditions.8, 9, 10, 11 It is a necessary condition for outperformance but not a sufficient one.7

Can active share be used for all types of funds?

Active share is primarily used for actively managed equity funds compared to their equity benchmarks. While the concept can be extended to other asset classes like fixed income, its application and interpretation may differ, and it might be less straightforward for diversified portfolios across multiple asset classes.6

How does active share relate to fees?

Funds with higher active share generally tend to have higher expense ratios because greater active management typically involves more research, trading, and operational costs. These higher fees can significantly reduce the net returns for investors, even if a fund generates strong gross performance.4, 5

Is active share a measure of manager skill?

Active share measures the degree of divergence from a benchmark, not directly the manager's skill in generating returns. While skilled managers may often have high active share due to their conviction in specific investments, a high active share itself doesn't prove skill, nor does it mean the manager will outperform.1, 2, 3 The debate around market efficiency and manager skill remains complex.