Index Funds Consistently Outperforming Active Management

1. The S&P 500 Index consistently outperformed 98% of mutual fund managers over the past three years and 97% over the past 10 years, ending October 2004. In two 30-year studies, the S&P 500 outperformed 97% and 94% of managers. In addition, only about 12% of the top 100 of managers repeat their performance in the following years. Therefore, it is not possible to consistently pick next year’s hot mutual fund manager.
From IFA.com

2. Over fifteen years to 1998, on a pre-tax basis the Vanguard S&P 500 index fund outperformed 94% of general equity mutual funds and 97% on a post-tax basis. The post-tax average difference in annual performance was 4.2%.
~From Common Sense on Mutual Funds, by John Bogle

Bottom Line: If you scored at the 97% level on the LSAT (score of about 169-170), I think you'd feel pretty good, especially if you didn't even have to study too hard (like index investing). On the other hand, if you paid a test preparation company thousands of dollars (like a mutual fund manager or investment advisor) and got a score far below the 97% percentile (which you pretty much could have gotten on your own for free), I think you'd feel pretty bad.

Comments

[fxtrader07:]

oh my, another crap article that adds zero alpha or new insights.
in fact, it is an anti-alpha article so i wonder why the author even bothers to post it here? if you think alpha (and that's what active management is all about) isn't achievable consitently, then well, seeking alpha may not be the place to go. or you should write an article that the entire concept of seeking alpha is flawed.

there are very smart fund managers and stocks out there that consistently (niot every quarter and not every year, but over ANY extended period of time greatly outperformed the market. be it buffet, whitman, berkowith, pzena, rodriguez, greenblatt klarman - you name them
to state that you cannot identify quality active fund managers and hence are bound to end up buying into one of the 90%+ underperformers is hollow and nonsensical. it's just a thesis with zero evidence presented.

now, regarding index funds: though heavily promoted, index funds by definition underperform the stock market indices 100.00% of the time! each and everyone of them, 100% assured.
that's a score of zero. very smart, indeed!

second,index funds are by no means passive/inactive. in fact, stock market indexes have become rather heavily actively managed "funds" themselves over the past 10-15 years. So much and so badly managed that i would strongly disregard them as a good performance measure alltogether! Studies show that doing much less in terms od adding and dropping of stocks to stock market indexes would greatly enhance the index's long term performance.
just as an example, had IBM been kept in the DJIA and not been dropped for a couple of years, the Dow would be more than 15% higher today!
so of course, it is true the huge majority of actively managed funds fail to even hold up to the itself badly managed indexes. but the reasons for that are manyfold. one of them is the huge restrictions fund managers are operating under when compared to individual investors. that's both from a cost and from an opportunities point of view. So i would go as far as to say that the private, retail investor actually should have little difficulty in outperforming the S&P or the Dow or whatever index you may chose simply by chosing a handful of good established stocks and then hold them without trying to time them, or to trade in and out or to catch the next fancy and hype. Buy-hold and only make a few long-term adjustments.

unfortunately, most people can't sit tight for any extended period of time trying to do something at least, even if it adds negative value.
the same is true for most active fund managers. they do too much, and they do so often because just a few quarters of underperformance often leads to flight by "investors", forcing in turn redemptions and selling of fund's holdings.

2008 May 30 04:02 AM

[ETF Investor:]

I wonder if the poster above is a spokesman for the mutual fund industry. Hey high powered active fund managers have to feed their families too.

2008 May 30 09:46 AM

[fxtrader07:]

i am not. and i am NOT defending the Mutual fund industry per se. But i strongly challenge the thesis that a mutual fund cannot outperform the market. the fund managers mentioned above (it must read berkowitz of course, not berkowith - my apologies for the typos) are consistently deating the market - and despite their cost disadvantages and mgmt fees. i certainly rather pay them 2% than paying up 0.4 or 0.6% "management"-fee for an etf where there is actually zero mgmt involved. what the hell are these 0.4 or 0.6% charged for annually? just for executing the index changes when they occur? please!
etf's make some sense - sometimes. but very often they don't.
running almost any randomly chosen diversified portfolio of 20 or 30 major exchange stocks and keeping turnover low will beat ETFs hands down. the point is, most people find it hard to do nothing. and here come the etfs which make it convenient to flip sectors, regions on a whim. you don't make any money that way though. only brokers and etf companies do

2008 May 30 10:17 AM

[smithoos:]

Re the above, you obviously like the managed mutual funds better than the "unmanaged" ETF universe. However, the vigor of your funddefense is surprizing given all the evidence to the contrary on mutuals and ETFs.I should say there are great fund managers ( CGM Focused and CGM Balanced as example ). Further it appears that your last comment about only brokers and ETF companies make money from ETF changes begs the question, why are you assuming that ETF investors are whimsical flippers? Sector investing has a long and reasonable history - many mutual funds do it themselves. I guess I just don't buy the adament nature of your argument.

2008 May 30 04:08 PM

[Solution:]

All inestors should not try to pick mutual funds or even individual stock.
I have never met anyone that can pick up winner consistently. All money managers should be filed and get a more productive job.

2008 May 30 05:49 PM

[fxtrader07:]

@smithoos. perhaps i should have written it in a different way. I apologize, my english isn't perfect; it's not my mother tongue.
My point is, that comparing ETFs and active" mutual funds the way the other did makes little sense. And that the retail investor is better of without most of the "actively managed" mutual funds and without almost all ETFs.
The most hillarious thing is actually the headline:"index funds sonsistently OUTPERFORM actively managed funds". As if they would "do" anything to ouptperform. Rather, most actively managed funds underperform even the etfs. That would characterize the situation much more appropriate.

2008 Jun 02 05:50 AM