• Only 44% of large-cap active funds beat their benchmarks in September, per BofA.
  • The cap-weighted S&P 500 outperformed its equal-weight counterpart by nearly 5 percentage points.
  • Meta and AMD alone accounted for 70% of the Russell 1000 Growth Index's monthly gain, highlighting extreme market concentration.

Narrow Rally Leaves Active Managers Behind

September proved to be a challenging month for active fund managers as an unusually narrow U.S. equity rally left the majority trailing their benchmarks. According to Bank of America (BAC)'s latest assessment, just 44% of large-cap active funds outperformed their benchmarks, a stark contrast to the broad-based gains typical of healthier markets. The cap-weighted S&P 500 surged nearly 5 percentage points ahead of its equal-weight counterpart, underscoring how a handful of mega-cap technology and AI-linked stocks drove index performance.

The disparity was particularly acute in growth-oriented portfolios. BofA noted that Meta Platforms (META) and Advanced Micro Devices (AMD) collectively contributed a staggering 70% of the Russell 1000 Growth Index's monthly gain. Meta's shares soared 27% in September—its best month in nearly four years and fifth-best on record—while AMD's AI-fueled rally pushed its market capitalization beyond $1 trillion for the first time. "The market leadership narrowed sharply toward megacaps," BofA strategists wrote, adding that growth managers, who typically diversify and cap position sizes, were most affected.

Technical Factors Amplify Underperformance

The mechanics of cap-weighted benchmarks exacerbated the pain for active managers. As mega-cap stocks rallied, their weightings in indices like the Russell 1000 Growth increased, forcing benchmark-hugging funds to hold even larger positions. Active managers, by contrast, often adhere to risk controls that prevent such concentration. "Active growth managers generally diversify and impose position-size limits, whereas cap-weighted benchmarks mechanically give their biggest holdings greater influence after their market values rise," BofA explained. This dynamic created a feedback loop: the more these stocks climbed, the more the index relied on them, and the harder it became for diversified portfolios to keep pace.

Reuters reported late in the month that while the cap-weighted S&P 500 was roughly flat for September, its equal-weight version fell about 4%, illustrating the brutal divergence beneath the surface. Smaller companies also suffered, with the Russell 2000 dropping 5.3% and the Dow declining 4.1%, even as the Nasdaq-100 gained 3.3% on the back of its heavy technology exposure.

Macro Headwinds and Policy Risks Loom

The narrow rally unfolded against a difficult macroeconomic backdrop. Treasury yields surged, with the 10-year yield jumping 54 basis points to 5.29%—its biggest monthly rise in four years—as resilient growth, stubborn inflation, and heavy debt issuance rattled bond markets. The Federal Reserve raised rates by 25 basis points in September, its first hike in three years, and signaled further tightening could be needed. Higher discount rates typically pressure small caps and highly indebted firms, but in this episode, a few AI leaders remained strong enough to lift cap-weighted indexes.

Policy risks also threaten the AI darlings. Meta faces ongoing scrutiny in Europe over its use of platform power in AI, with regulators ordering it to allow rival chatbots access to WhatsApp and warning of fines up to 10% of global annual turnover. AMD, meanwhile, contends with strict U.S. export controls on advanced computing chips to China, which could constrain its addressable market. The Federal Trade Commission has also signaled that AI developers may be held liable for harms caused by their systems, adding another layer of uncertainty.

What's Next for Active Managers?

The concentration dilemma leaves active investors with a difficult choice: matching benchmark exposure to reduce relative-performance risk, or maintaining diversification discipline and risking further underperformance if the rally persists. "Underperformance does not necessarily mean weak research or poor portfolio construction; it can reflect diversification discipline in an extremely concentrated market," BofA noted. For now, the ball remains in the court of a handful of mega-cap names, whose earnings and AI adoption metrics will determine whether leadership broadens or narrows further.

As one portfolio manager put it, "It's a tough environment when the index is driven by two stocks. You either join the crowd or stick to your process and hope the market eventually rewards it." With the Fed's policy path still data-dependent and AI spending under intense scrutiny, the coming months will test the resilience of both active strategies and the narrow rally itself.