Key takeaways
- Over the 20 years to mid-2025, 87.81% of US small-cap funds trailed the S&P SmallCap 600 and 94.03% of emerging markets funds trailed the S&P/IFCI Composite.
- In the first half of 2025, only 22% of small-cap funds underperformed, and 2024's 30% rate was the lowest annual figure in over two decades of SPIVA data.
- Morningstar's 10-year success rates to June 2025 run 8% for active large-cap funds, 25% for small-cap and 30.8% for diversified emerging markets. Better odds, still losing ones.
- No top-quartile domestic equity fund from December 2020 was still top-quartile in December 2024, and only 6% of 2022's top small-cap funds lasted the next two years.
- The S&P SmallCap 600 beat the Russell 2000 by 1.72% a year from 1994 to 2014, so the yardstick a manager picks moves the verdict on active management.
Where the less efficient markets claim comes from
Index funds won the large-cap argument years ago. The fallback position is more precise: can't a skilled manager still earn the fee in small caps and emerging markets, where fewer analysts follow each stock and prices should be easier to beat?
Tested against the scorecards, the claim fails at every horizon that matters. Over the 20 years to mid-2025, 87.81% of US small-cap funds trailed the S&P SmallCap 600. Emerging markets funds did worse: 94.03% trailed the S&P/IFCI Composite, S&P's emerging markets benchmark. That second figure sits below even the US large-cap record, where 91.03% trailed the S&P 500. The category the exception was invented to escape turns out to be the easier one.
The claim splits in two once you look closely, and the split is where this piece lives. The absolute version, that most active funds beat their benchmarks in these segments, is false on every long horizon in the data. The relative version, that your odds are better there than in large caps, has genuine support. Both things are true at once, and the gap between them is the whole decision.
One good half-year keeps the claim alive
The evidence for the exception is nearly always a short window, and short windows keep supplying it. In the first half of 2025, the SPIVA scorecard found that "only 25% of All Mid-Cap funds and only 22% of All Small-Cap funds underperformed to the year's mid-point". Emerging markets managers had a good run too: just 47% of emerging markets funds underperformed over those six months, meaning a majority beat the index.
2024 told the same story, with a 30% small-cap underperformance rate that S&P calls the lowest annual figure in more than two decades of its scorecards. Put those results together and the exception looks alive and well.
The chart above shows what happens to that evidence as the horizon stretches. The same small-cap fund universe that posted a 22.33% underperformance rate over six months fails at 61.60% over five years, 78.42% over ten and 87.81% over twenty. Nothing about market efficiency changed between those columns. Only the measurement period did.
S&P's own commentary points at the mechanism behind the good half-year: a 10% performance differential between the S&P 500 and the S&P SmallCap 600 gave any manager holding slightly larger stocks than their benchmark a tailwind. That's a style tilt, not stock selection, and it cuts the other way whenever mega caps lead.
Twenty years of small-cap and emerging markets fund data
The long-horizon table is consistent across fund domiciles. Among US-domiciled funds measured to mid-2025, the emerging markets failure rate climbs from 63.98% over one year to 78.11% over five, 85.89% over ten and 94.03% over twenty. Small-cap funds follow the same slope from a friendlier start: 40.58% over one year, then 61.60%, 78.42% and 87.81%.
Europe-domiciled funds, graded in S&P's separate European scorecard, look no better. Over the ten years to the end of 2024, 95.21% of euro-denominated emerging markets equity funds trailed the S&P/IFCI Composite, and 91.19% of the sterling-denominated ones did. Whatever advantage local inefficiency confers, it doesn't seem to reach the investors paying for it.
There are two genuine soft spots, and they're worth naming precisely. International small-cap funds, meaning US-domiciled managers picking small companies outside the US, failed at only 70.45% over 20 years, the lowest long-horizon rate in the scorecard's international table. UK small-cap equity funds failed at 67.09% over the ten years to end-2024. Those are the best numbers the exception can point to, and both still describe roughly a two-in-three failure rate.
Morningstar's kinder scoreboard still shows losing odds
SPIVA grades funds against an index nobody can hold at zero cost. Morningstar's Active/Passive Barometer asks a fairer question: did the active fund survive and beat the actual, investable passive funds in its category, net of fees? The bar is lower and the results are friendlier to the exception. They're still losing odds.
Over the decade to June 2025, 8% of active US large-cap funds survived and beat their average passive rival. Small-cap managers managed 25% and mid-cap managers 18%. Small-growth funds did best of any US equity category at 36%. Foreign-stock funds as a group came in at 24%, against 15% for US stock funds, and diversified emerging markets funds reached 30.8%.
Morningstar's own reading is blunt: "The small-cap market is relatively priced less efficiently." So the relative claim is real. Set against the 5.8% ten-year success rate in US large blend, an emerging markets fund picked at random multiplied the odds of success roughly five times.
The strongest single number for the defence sits in the same report. Weighted by assets, the average actively managed emerging markets dollar returned 4.9% a year over that decade, against 4.6% for the passive funds. The average invested dollar in the segment came out ahead. That is the counter-case at full strength, and it deserves stating plainly: in one segment, on one weighting, active management in aggregate cleared the bar.
What it doesn't survive is the next question: which fund, chosen in advance?
Winning funds don't stay winners
If skill concentrated in less efficient markets, the winners there should repeat. S&P's persistence scorecard, built on the University of Chicago's survivorship-bias-free CRSP fund database, tracks exactly that. The answer looks like luck decaying, not skill compounding.
Of the top-quartile domestic equity funds of December 2020, in S&P's words, "not a single fund remained in the top quartile over the next four years". Small-cap funds looked stickier at first: 24.60% of 2022's top quartile were still there a year on, by far the best of any category. A year after that it was 6.35%.
Lower the bar to the top half and the pattern holds. Over the five years to end-2024, 2.79% of small-cap funds stayed in the top half throughout, against 2.42% for large caps. Random chance, S&P notes, would produce 6.25%. Persistence in the supposedly inefficient segment isn't just rare. It's rarer than a coin toss would make it.
One cell in the table does favour small caps: of the funds that beat the S&P SmallCap 600 in 2022, 30.80% were still beating it in 2024, the highest benchmark-relative repeat rate of any equity category. That's a real signal, and it still leaves a roughly seven-in-ten failure rate among funds that had already won once. Money that follows a hot three-year table into a fund is engaged in performance chasing, and these repeat rates are the odds it's accepting.
The benchmark you measure against decides the verdict
There's a quieter problem underneath the small-cap numbers: which small-cap index? S&P's research paper A Tale of Two Benchmarks reports that "since its launch in 1994, the S&P SmallCap 600 has outperformed the Russell 2000 in 14 of 21 calendar years", and by 1.72% a year on an annualized basis from January 1994 through December 2014. Over the trailing 20 years of that sample, the two indices returned 11.63% and 9.63% a year respectively.
The causes are structural. The S&P SmallCap 600 requires four consecutive quarters of positive as-reported earnings before a stock can join; the Russell 2000 takes everything in its size range. And the reconstitution studies S&P cites, published in 2002 and 2006, estimate that the predictable June Russell rebalancing "biases the return of the index downward by an average of approximately 2% per year", because everyone can see the reconstitution trades coming.
Many small-cap managers report against the Russell 2000, while SPIVA grades them against the S&P SmallCap 600. A manager can beat one and trail the other in the same year, so part of the small-cap exception, as marketed, is an artifact of the easier yardstick. The provenance matters here: this is S&P defending its own index against a rival's. But the return gap is arithmetic on published index levels, and the reconstitution studies it cites are third-party work.
Why inefficiency doesn't cover the fee
The theoretical case was set out in Vanguard's research on indexing, a line of argument that runs back to the first index mutual fund in 1976. Every trade has two sides, so before costs the average invested pound earns the market return. As the paper puts it, "the zero-sum game applies to markets thought to be less efficient (such as small-cap and emerging market equities) as readily as to those widely regarded as efficient". Mispricing creates winners only by creating matching losers. Inefficiency changes who wins, not how many.
What inefficiency does reliably change is the bill. Trading small-company and emerging markets shares costs more, and the funds charge more, and the effect shows up in Morningstar's fee-quintile split: the cheapest fifth of emerging markets active funds succeeded 43.5% of the time over ten years, the dearest fifth 19.6%. Fund fees compound against the manager hardest exactly where managers charge the most.
Survival tells the same story. Only 47.6% of the US small-blend active funds in business twenty years earlier were still running by mid-2025. In large growth, Morningstar notes, "nearly 65% closed, and just 1% managed to outperform their average indexed peer". Failure in these tables doesn't only mean trailing an index. Often it means the fund stopped existing.
What this evidence cannot tell you
All of it is fund data, which samples the argument rather than settling it. SPIVA's universe is US-domiciled mutual funds, and the European scorecard adds Europe-domiciled ones. Institutional mandates, hedge funds and sovereign pools trading the same emerging markets never enter the table, so funds are a proxy for active management, not a census of it.
The comparisons carry known tilts in both directions. SPIVA measures funds net of fees against indices that bear no costs at all, which flatters the index; real index funds pay spreads and tracking costs, though in liquid markets those are small. Morningstar's 20-year emerging markets cell rests on 71 active funds and a passive peer group that started with just 4 funds, thin enough that a couple of survivors move the number.
Nobody publishing this data is disinterested. S&P sells the benchmarks active funds are graded against, and its small-cap benchmark paper defends its own product. Morningstar sells fund research. Vanguard built its business on the conclusion. The figures are worth more together than alone because the publishers' incentives point in different directions. The periods are fixed too: the SPIVA and Morningstar numbers run to June 2025, the persistence and European figures to December 2024. A sample ending somewhere else reads differently, as the first half of 2025 itself proves.
What would change the conclusion
The claim is testable, so the honest close is a list of what would flip it.
If top-half persistence among small-cap or emerging markets funds rose above the 6.25% random-chance line and stayed there, fund selection would start to look like a skill you could buy in advance rather than identify in hindsight. The persistence scorecard updates annually and reports exactly that cell.
If majority outperformance appeared at ten-year horizons rather than in half-year sprints, the exception would have real legs. The 85.89% ten-year emerging markets failure rate is the number to watch falling. Short-window wins have arrived regularly for two decades without ever surviving into the long columns.
If active fees in these segments compressed toward today's cheapest quintile, observed success rates would roughly double without any change in manager skill. Cost, not market efficiency, is the variable that has actually moved the odds in this data.
And if the Russell 2000's reconstitution drag were engineered away, some measured small-cap outperformance would vanish with it, because it was never alpha, just the gap between two definitions of the same market. The exception has survived twenty years of scorecards by pointing at the most recent half-year. The scorecards keep publishing. So does the long column.