Background, methodology and findings

Replicating the ESMA study on Closet Indexing


For years now the active management of investment funds has suffered negative criticism. Following years of persistent failure by the majority of fund managers to outperform capital markets, the evidence in favour of index investing – also known as “passive management” – is building up.

Indeed, actual results tend to demonstrate that with high fees, scarce talent and intense competition, it is almost impossible for active managers as a whole to outperform the market in the long-term.

Since there’s a lot more money to be made from active management than from indexing, advisors and managers continued to spin the truth for years. But in the face of increasing evidence highlighting the disappointing performance of active management, fund managers sometimes turn to other tactics to justify the high fees.

Some turned to indexing and several financial institutions have steadily reduced fees by offering and promoting exchange-traded funds (ETFs) that track indices, offering a better deal in the long-term than most “active” funds. Other managers have started resorting to practices such as “index hugging”… This allows them to limit the risk of underperformance by clinging to an index but without advertising the fact that, for all intents and purposes, they are charging “active management” fees for what is essentially passive management. The practice of “closet indexing” is very misleading and the promotion and distribution of such funds causes substantial detriment because the investor is paying for a service that he or she is not receiving.

Better Finance repeatedly denounced this practice and in October 2014 lodged a request with the European Securities and Markets Authority (ESMA) for “closet indexing” to be investigated on a pan-European basis. Nearly a year and a half later, on February 2nd 2016, ESMA published a statement providing details of its work on potentially falsely active funds and released some of the long-awaited results of its investigation.

These results confirmed that investor detriment is possibly very serious since ESMA found that up to 188 funds – i.e. 15 % of the UCITs funds it analysed – could potentially be falsely active based on quantitative measures available, a number that could have been much higher had ESMA included all UCITS equity funds and all other equity funds that are widely sold to retail investors such as alternative Investment funds (AIFs).

However, ESMA never disclosed the funds that were uncovered by its investigation as potentially falsely active, nor did it disclose in which countries they are domiciled, leaving EU investors in the dark.

This is why Better Finance decided to replicate the ESMA study as closely as possible and – based on the same quantitative analysis performed by ESMA – to disclose the list of the UCITS equity funds, including those that are potentially “closet indexers” according to the ESMA methodology, but also those that ESMA excluded from its analysis.

Disclaimer:The study carried out by Better Finance is only replicating the European Regulator’s (ESMA) 2015 study, using the same sources and referencing the same period: from 2010 to 2014 only. It is a one shot study limited in time. Data results generated from ESMA’s methodology and filtering criteria therefore may very well have changed since then. This website and study does not contain a complete list of equity funds sold in the EU but only the “UCITS” Equity Funds selected following ESMA’s criteria.

Better Finance has not identified any closet index fund. It has only recreated and published the list of funds that ESMA sampled earlier, including those ESMA identified itself as “potential equity closet indexing funds”, based on its sampling criteria and on its quantitative analysis; we refer to ESMA’s press release and statement from 02/02/2016. Better Finance’s quantitative study therefore bears the same limitations as the ESMA one.

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Better Finance found that 57% of the 2332 UCITs funds it was able to investigate using the ESMA sampling criteria escape scrutiny because of a lack of available information. Of those it was able to investigate, 16 % (165 funds in total) displayed characteristics that flag them as potential closet index funds based on the ESMA metrics.

Read the full press release here.


In order to replicate the ESMA study as closely as possible, Better Finance also used the Morningstar database and filtered the full universe of funds using the same criteria as ESMA, both explicit and implicit.

In order to faithfully present the findings of the study, the same criteria and time period were used as those by ESMA. Better Finance also analysed the funds that ESMA excluded from its analysis because it could not retrieve the necessary data.

Read the full methodology here.


Our additional review of investor disclosure documents revealed that many of the funds with the highest potential of being closet indexers according to ESMA do not disclose their benchmark’s performance alongside their own performance in their KIID although they do disclose a benchmark in their prospectus.

Read more about our additional findings here.