A recent article I read on CNBC’s website quoted research from Birinyi Associates—a firm founded by Laszlo Birinyi, a frequent guest on Wall $treet Week with Louis Rukeyser. The study in question found that the component members of the S&P 500 index moved with the overall index 70 percent of the time. A decade ago the correlation was 30 percent.

The other analysts quoted in the article concluded that the rise of indexing and index-based exchangetraded funds (ETF) was behind the closer correlation of individual stocks to benchmark index. After all, index funds buy and sell huge baskets of the stocks that make up indexes on a daily basis, driving enough volume to create strong correlations.

That’s not an entirely unexpected conclusion. Since the market bottomed in March 2009, fund flows indicate that investors have exited actively managed mutual funds in favor of passive-indexing ETFs and mutual funds.

Although investors who focused on fundamentals and purchased high-quality companies on the cheap during the downturn outperformed, it took strong courage of conviction to stick with those holdings as share prices tumbled. That experience reinforced the wisdom of index investing.

The article also laid a fair amount of blame on closet indexers, mutual fund managers that hide under the mantles of their indexes so as not to underperform the market. I’ve railed against closet indexers in the past. Although I don’t want to put too fine a point on this criticism. I believe that a manager taking cover behind an index is tantamount to thievery.

The motivations for closet indexing are abundantly clear: It’s tough to market a mutual fund that underperforms, and active management commands higher fees. If a manager doesn’t take a handson approach to portfolio construction, he or she is stealing your money.

It can be tough to identify an indexhugging manager without digging into portfolio data; you won’t find much hard data detailing how many active managers simply track their benchmarks.

But according to most of the pundits—many of whom express clear biases against mutual funds—as many as half of all fund managers might be hiding out in their benchmarks.

Out of curiosity, I decided to look at the universe of mutual funds eligible for inclusion in The Rukeyser 100 to determine just how pervasive the practice is and whether it’s always a bad thing.

Using current and historical data provided by Morningstar (http//:www.Morningstar.com), I winnowed the universe down to the roughly 2,700 funds eligible for inclusion in The Rukeyser 100 in May 2007 and May 2010. From there, I weeded out some 800 index mutual funds.

Using benchmark data and correlation statistics, I found that a third of the 1,900 “actively managed” funds were suspiciously similar to their benchmarks.

But about a quarter of those funds outperformed both their indexes and their peers, which begs the question: Is it always a negative for a manager to fall back on his or her benchmark? Alpha measures the difference between a fund’s actual returns and its expected performance based on its beta.

For example, a fund with a beta of 1 would be expected to generate the same returns as its benchmark, whereas a fund with a beta of 1.1 would be expected to perform 10 percent better in up markets and 10 percent worse in down markets.

A fund with a beta of 0.9 would be expected to underperform by 10 percent in up markets and outperform by 10 percent in down markets.

When a fund manager generates a positive alpha, his or her investment decisions add value to the fund; when these choices generate a negative alpha, they’re likely subtracting value.

Let’s return to the almost 630 funds with an overbearing resemblance to their benchmarks. I whittled this group down to funds with a beta of 1—that is, funds expected to perform the same as their benchmarks.

A little more than a quarter of these offerings generated a positive alpha, indicating that the decision to move in line with their benchmarks added value.

What can we conclude from this exercise? Being an index hugger isn’t always a bad thing—in fact, this approach can work in shareholders’ favor.

The downside is that managers are basically timing the market—a practice on which I tend to frown because it’s tough to make the right call consistently. Case in point: Only 97 managers in my sample group generated a measurably positive result while mimicking the benchmark.

Thankfully, indexing hugging isn’t quite as pervasive as many of the talking heads would have you believe.

But if you want to check out your manager and see how much value he or she adds to the proceedings, a number of free resources are available online.

Morningstar offers a wealth of fundamental data that you can access at no cost, including alpha and beta readings. Fund Mojo (http://FundMojo. com) hosts a great deal of historical fund information, including past asset allocations.

Although the odds are against your fund manager being a closet index hugger, they’re fairly easy to spot when you know how to identify one.

A Third Measure

While alpha and beta are helpful, another useful metric is the Sharpe ratio.

While the alpha measures helps to determine if a manager is adding value to a fund, it doesn’t tell you if they’re taking on excess risk in the process. The Sharpe ratio compares a funds expected return and volatility to that of a risk-free asset–typically a 10-year Treasury bond or Treasury bill–to give investors an idea of how much risk is being taken in the investment process. The higher the ratio, the better a fund’s risk adjusted returns.

It is best used when comparing similar types of funds, which is why we include it in our Rukeyser 100 table.