Universal owners—institutions with diversified, long-term portfolios spanning public and private markets—increasingly favor active management for illiquids and ESG integration, while maintaining core passive equity exposure for cost efficiency and market-cap alignment.
The core tension for universal owners—those managing capital for multiple generations across broad stakeholder groups—is whether active management's excess returns justify higher fees and operational complexity. Evidence suggests a bifurcated answer: passive vehicles dominate broad equity exposure, while active strategies retain legitimacy in illiquid markets and systematic screening for systemic risk factors.
What is a universal owner and why does the active-passive choice matter?
A universal owner is a long-term institutional investor with such diversified holdings that it effectively owns a representative slice of the global economy. The concept originated in academic work by Monks and Minow but gained operational urgency through institutions like CalPERS (California Public Employees' Retirement System, $493.5 billion in assets as of June 2024), the Government Pension Investment Fund of Japan (GPIF, ¥225 trillion or approximately $1.5 trillion USD), and the Norwegian Government Pension Fund Global ($1.32 trillion as of Q3 2024).
For these institutions, the passive-active choice is not academic. A universal owner cannot outperform the market by definition—its portfolio is the market. This shifts the optimization problem from alpha generation toward cost control, risk factor identification, and engagement leverage on systemic issues that affect all holdings simultaneously. The strategic question becomes: where do active approaches generate value net of fees, and where does the institutional overhead of active management destroy it?
Why large pension funds have shifted toward passive core holdings
The empirical case for passive indexing in equity markets has solidified over two decades. BlackRock's fundamental indexing research, the persistence analysis by Vanguard, and peer-reviewed studies in the Journal of Portfolio Management all reach similar conclusions: net of fees and transaction costs, 85–92% of active managers underperform their benchmarks in rolling 10-year periods.
CalPERS serves as an instructive case. In 2015, the fund began a $12 billion shift toward passive equity strategies. The stated rationale in public board materials was cost—reducing embedded fees from 30–45 basis points to 5–10 basis points across U.S. and international equity—combined with the view that while some managers add alpha, the probability of identifying them ex ante is low. The fund retained active management for small-cap and emerging market equities, where information asymmetries and liquidity premiums theoretically support manager skill.
GPIF, with its ¥225 trillion portfolio, conducted a similar analysis around 2015. The fund increased passive exposure within its core equity allocation, particularly in developed markets, while maintaining active positions in credit markets and Japanese equities where the fund possessed informational or operational advantages.
The structural advantage of passive in liquid, well-researched markets is compounded by universal ownership. Universal Owners vs Asset Owners operate under a constraint that smaller, specialized funds do not: they cannot benefit from truly differentiated views without holding positions inconsistent with economic reality. A universal owner taking a 2% underweight in technology risks being exposed to tail risks in that sector while capturing none of the upside from its growth. This mathematical reality favors index-like positioning.
Active management's remaining strongholds: private markets and systematic screening
Active management retains defensible economics in three domains.
Private Markets and Illiquidity Premiums
The largest pension funds deploy 15–35% of assets into private equity, private credit, and infrastructure—domains where price discovery is incomplete and information asymmetries are material. CalPERS allocates roughly $120 billion to private markets (24% of total AUM). GPIF and the Norwegian Government Pension Fund Global maintain similar allocations, in part because the illiquidity premium—the excess return available for bearing liquidity risk—is real and measurable over 10+ year horizons.
Here, active management is not a discretionary bet; it is a structural feature of the market. A passive "index" in private markets would be impossible to construct without the intermediary work of general partners and fund managers. The question shifts from "is active worth it?" to "which GPs deliver returns consistent with their fees?" This is where Private Markets Due Diligence: A Framework for Asset Owners becomes operationally critical. Pension funds now employ dedicated teams to source and evaluate GP track records, management incentive structures, and operational practices—a form of active management at the allocation level.
Factor-Based and Systematic Engagement Screening
Universal owners increasingly employ active strategies not to beat the index, but to screen for systemic risks and policy-driven exposures that affect the portfolio holistically. Norwegian Pension Fund Global publishes extensive exclusion lists based on ethical guidelines and systemic harm criteria. CalPERS' public engagement on climate and governance issues targets holdings across the portfolio, not individual stock pickers' conviction.
This is active management reframed as risk governance. The fund might hold a broad equity index but maintain active overlay positions—shorting carbon-intensive sectors, overweighting governance-screened stocks, or reducing exposure to jurisdictions facing Fiscal Dominance and What It Means for Asset Owners constraints that limit future policy flexibility.
Fee structures and the governance paradox
Here emerges a governance tension that most literature underplays. Active management's fee structure—typically 50–150 basis points plus performance fees—creates a principal-agent problem for universal owners. A pension fund's CIO benefits from managing a large active operation (staff, prestige, externally-compensated managers). Board members may favor the appearance of active management as evidence of diligence. Yet the beneficiaries—retirees and future generations—bear the cost.
Investment Committee Governance: Best Practices for Asset Owners now typically requires explicit fee benchmarking. The Institutional Investors Group on Climate Change (IIGCC) surveys show that 78% of large European pension funds have reduced active equity allocations since 2010, with cost control cited as the primary driver in board minutes.
The paradox: some active management persists not because it outperforms but because it is embedded in governance structures and cannot be unwound without organizational restructuring. A pension fund with 40 years of active management infrastructure—committees, reputational relationships, internal staff—faces switching costs that may rationally delay a shift toward passive, even when cost-benefit analysis favors it.
Tactical opportunities in dislocated markets
A secondary argument for maintaining active capacity is optionality during market dislocations. The 2008 crisis, the 2020 COVID shock, and the 2022 bond market volatility all created brief windows where active managers with liquidity and research depth generated alpha. A universal owner holding purely passive equity indexes missed the opportunity to rebalance into illiquid assets at distressed prices, or to source credit opportunities at risk premiums exceeding long-term equilibrium.
This is not a statement about skill; it is about optionality. A pension fund maintaining some active equity or fixed-income capacity can execute large rebalancing trades with informational edges during dislocations. Passive-only funds must hire active managers ad hoc, losing the benefit of existing relationships and due diligence infrastructure.
Norwegian Pension Fund Global's public reports document this logic explicitly. The fund retained active management in emerging markets and high-yield credit partly to preserve the operational capacity to act decisively during liquidity crises, when market dislocations create brief windows of real alpha.
The evolution toward passive-dominant, actively-governed
The institutional consensus is converging toward a hybrid model:
- Passive core: 60–80% of liquid equity and fixed-income holdings in low-cost index funds or ETFs.
- Active private markets: 20–30% of total AUM in PE, credit, and infrastructure, managed through active GP selection and monitoring.
- Systematic overlays: 5–15% of liquid holdings in factor-based strategies (value, momentum, low volatility) that are either passive (rules-based) or minimally active (rebalanced, low-turnover).
- Engagement and governance: Active CIO and board-level decision-making on portfolio construction, asset class allocation, and systemic risk management—distinct from manager-level active management.
This architecture acknowledges that "active" and "passive" are not binary choices but exist on a spectrum. A fund holding a broad equity index with active engagement on climate and governance is, in a meaningful sense, actively managed at the governance level while passively managed at the security-selection level.
Implications for long-term allocators
For CIOs and investment committees overseeing universal owners, the practical implications are clear:
- Cost discipline trumps manager selection. Allocate the majority of liquid equity exposure to passive vehicles with fees below 10 basis points. Redirect resources toward GP due diligence, asset allocation decisions, and engagement strategy.
- Preserve private markets capacity. Active management in illiquid markets remains economically justified. Invest in sourcing, monitoring, and relationship infrastructure.
- Reframe "active management" as governance, not security selection. The real value of active management for universal owners lies in systematic screening for systemic risks, policy engagement, and capital redeployment during dislocations—not in trying to outpick the market.
- Examine governance incentives. Board and CIO compensation structures should reward cost management and long-term performance, not the scale of active management operations.
The shift toward passive-dominant portfolios for universal owners is not ideological but empirical. It reflects the mathematical reality that large, diversified portfolios cannot deviate meaningfully from market weights without taking uncompensated risks. The strategic question is not whether to be active or passive, but how to structure governance, fee arrangements, and operational capacity to maximize long-term risk-adjusted returns for all stakeholders across generations. Digitisation as an Investment Theme for Asset Owners will increasingly determine whether that governance advantage is accessible or eroded by technology-driven fee compression.