Twice a year, Standard & Poors publishes it’s SPIVA Statistics and Reports in which it calculates what percent of actively managed funds outperform their benchmarks. Those of us in the financial media make big deal out of the results, which always show significant underperformance by actively managed mutual funds across almost all asset classes in both stocks and bonds.
Coupled with the fact that “winners” have great difficulty replicating their stellar past performance, the conclusion (to us) is clear: Stop buying actively managed funds and buy low management fee index funds instead.
As an investor, you react quite differently. The majority of individual investors continue to buy actively managed funds.
While we’re making inroads, we’re not having as much of an impact as we should.
I’m going to try a different approach.
Let’s focus on one data point in the SPIVA report for the period ending December 29, 2017. It found that, for the five-year period ending on that date, 84.23% of large-cap funds underperformed the S&P 500 index fund.
You can’t buy the index, but you can buy low management index funds that track it, like Vanguard’s S&P 500 ETF (VOO), which has an expense ratio (management fee) of only 0.04%.
Every year, some stocks in the S&P 500 index are stellar performers. In this insightful blog post, financial journalist, Larry Swedroe, summarized winners and losers for 2017. The ten top performing stocks had returns ranging from 80% to 132%.
The ten biggest losers had negative returns ranging from -44% to -53%.
To outperform the index, an active fund manager had a number of options:
Overweight the winners; or
Underweight the losers.
Yet, Swedroe notes that in 2017 (as is typical), the large majority of active funds underperformed.
There’s only one explanation why most active funds managers can’t outperform an index of the 500 largest, best-known and easiest to research companies in the U.S.
They don’t have the skill to do so.
It’s not entirely their fault. The market is random and unpredictable. I don’t blame them for failing.
Here’s what I do blame them for: Holding themselves out as having an expertise that doesn’t exist.
By convincing you to entrust your hard-earned money with them, when they know you would likely be better off in a comparable index fund, they are acting in their economic best interest and against yours. The damage they cause collectively to investors is huge and meaningful.
That’s why they’re losers.
There’s no reason for you to be a loser as well. Avoid actively managed funds (and those who recommend them) and invest in low management fee index funds.
I recommend this blog post by Larry Swedroe in which he eviscerates the lame excuses offered by active fund managers for their consistent underperformance.