How Much Labor Do You Need to Manage Capital?

Abstract

Asset management companies in the United States employ several hundred thousand people in advisory, portfolio management, and research roles, yet academic research suggests their investments, on average, underperform passive benchmarks net of fees. Using a new dataset on over 10,000 registered investment advisors (RIAs), we analyze which clienteles, asset classes, and strategies require more human capital, as well as the value that human capital adds to investment management. We find that while more human capital is not associated with better performance (controlling for assets under management), having more advisory personnel helps attract more assets, justifying their salaries from the point of view of the firm. Furthermore, larger teams actually behave more like closet-indexers, holding more diversified portfolios with lower tracking error. Our findings suggest that some active management companies realize their ability, or lack thereof, to generate alpha, and use their employees in order to keep and attract clients.