It seems like almost every week a new study appears to debunk the myth of active management. This week was no exception.
Robin Powell, a U.K.-based journalist and financial blogger, discussed a recent study that covered 561 U.K.-based stock funds between 1998 and 2008.
The study’s findings were consistent with similar research done on funds based in the United States and elsewhere. It found underperformance by the average stock mutual fund manager, after fees and allowing for common risk factors.
The conclusion reached by the study’s authors was sobering: “The results provide powerful evidence that the vast majority of fund managers in our dataset were not simply unlucky, they were genuinely unskilled.”
This study is a dry, academic treatise and unlikely to be read or understood by the general public.
That’s exactly the way the securities industry likes it.
Progress is slow
The message regarding the failure of active management is starting to resonate with investors, but it still has a long way to go. While the percentage of assets invested in passively managed funds has increased dramatically, according to Morningstar, as of January 2014, it accounted for only 27 percent of total invested assets.
If everyone understood the data, I suspect that percentage would be significantly higher.
A different way to convey the message
In a recent column, Barry Ritholtz quoted legendary investor Charles Ellis on the perils of competing for returns against investment professionals. Ellis reportedly said: “Watch a pro football game, and it’s obvious the guys on the field are far faster, stronger and more willing to bear and inflict pain than you are. Surely you would say, ‘I don’t want to play against those guys!’
“Well, 90 percent of stock market volume is done by institutions, and half of that is done by the world’s 50 largest investment firms, deeply committed, vastly well prepared — the smartest sons of bitches in the world working their tails off all day long. You know what? I don’t want to play against those guys either.”
That’s a message that’s easy to understand.
There’s a better way
Instead of competing against the pros — and often losing — there’s another option that is disarmingly simple: Don’t play the game.
Opt out of relying on your stockbroker, the one who tells you he can “beat the markets” through stock picking, market timing and fund manager selection even though there is likely to be a professional on the other side of your trades.
The performance of the average investor who succumbs to this “advice” is shockingly poor. According to one study, for the 20-year period ending Dec. 31, 2013, the returns of the average investor barely kept up with inflation. During the same period, investing in a simple S&P 500 index fund would have yielded more than twice those returns.
Here’s a different approach. It eliminates the perils of competing against “the smartest sons of bitches in the world.” Instead, it involves capturing the returns of the global marketplace, less very low fees, through the use of index funds. I discuss how in this article.
If you continue to ignore this advice, you will be engaged in an effort described by my colleague, Larry Swedroe, and his co-author, Andrew Berkin, in their excellent book,The Incredible Shrinking Alpha, as follows:
“Active management is the triumph of hype, hope and marketing over wisdom and experience. Choosing passively managed funds to implement your investment plan is the winning strategy, and the one most likely to allow you to achieve your goals.”
It’s not that it is impossible to win at the game of active management. It’s just that the odds are so stacked against you that it makes no sense to try.
This is a game you shouldn’t play.
This commentary originally appeared November 17 on HuffingtonPost.com
By clicking on any of the links above, you acknowledge that they are solely for your convenience, and do not necessarily imply any affiliations, sponsorships, endorsements or representations whatsoever by us regarding third-party Web sites. We are not responsible for the content, availability or privacy policies of these sites, and shall not be responsible or liable for any information, opinions, advice, products or services available on or through them.
The opinions expressed by featured authors are their own and may not accurately reflect those of the BAM ALLIANCE. This article is for general information only and is not intended to serve as specific financial, accounting or tax advice.
© 2015, The BAM ALLIANCE
When we talk about the chances of something bad happening, people tend to fall into three general groups.
I want to focus on this last group. To be sure, today’s world can be a scary one. In some ways, I’m surprised we don’t all walk around thinking, “We’re doomed!” After all, during the last 15 years, we’ve lived through what seems like countless terrorist attacks and financial crises that seem unending. It feels like the chances of something really bad happening at any time are huge.
But what if they’re not?
What if our worry about the 1 or the 5 or the 10 percent chance of something bad happening blinds us to the rest of life? For example, in 2013 the most common cause of death was heart disease. The Centers for Disease Control and Prevention statistics show that it caused 611,105 deaths. During that same year, 40 people died from salmonella.
Just think about that for a minute.
Clearly, the potential risk of dying from heart disease was greater than the risk of dying from salmonella. But if you read the news stories about the E. coli outbreak at Chipotle recently, it became really easy to fear for our food safety and to ignore our weekly cheeseburger habit.
We do something similar with our money fears. Over the last few years, I’ve lost track of how many people have told me about their plans to avoid any fallout from the next financial catastrophe. “Great,” I tell them, “but how do you know what will happen next time?”
They all begin answering my question in roughly the same way. “Well, the last time …” Do you know how small the probability is that the next financial crisis will look exactly like the last one? They’re focused on the teeny, tiny possibility that what happened last time will predict what happens the next time.
Whether we’re talking about our money, our health or our safety, we’ve got to get past that fear of the thing that has a tiny chance of happening. This fear blinds us to making the most of the remaining 90, 95 or 99 percent. Once we’ve done everything we reasonably can do to be safe, once we’ve accounted for everything within our control, we need to learn to let go of the rest.
One of my favorite examples of misguided worriers are the investors who insist on trying to build a portfolio that will survive any market situation. That’s just not possible. But we can build a portfolio that handles most of what the market might do within the context of our short- or long-term goals. And that needs to be enough.
In life, the chance of something bad happening will never be zero. But I think Calvin Coolidge got it right when he said, “If you see 10 troubles coming down the road, you can be sure that nine will run into the ditch before they reach you.” Let’s see what happens if we save our worry for that 10th trouble and let the rest run into the ditch.
This commentary originally appeared November 10 on NYTimes.com
By clicking on any of the links above, you acknowledge that they are solely for your convenience, and do not necessarily imply any affiliations, sponsorships, endorsements or representations whatsoever by us regarding third-party Web sites. We are not responsible for the content, availability or privacy policies of these sites, and shall not be responsible or liable for any information, opinions, advice, products or services available on or through them.
The opinions expressed by featured authors are their own and may not accurately reflect those of the BAM ALLIANCE. This article is for general information only and is not intended to serve as specific financial, accounting or tax advice.
© 2015, The BAM ALLIANCE
Jane Bryant Quinn, a highly regarded and nationally syndicated columnist, once called much of the output of Wall Street and the trade publications that cover financial markets “investment porn.” She summed it up this way: “Americans are indulging themselves in investment porn. Shameless stories about performance tickle our prurient financial interest.”
The roller-coaster swing of opinion that comes from Wall Street, the media and trade publications covering the industry reflects the attempt to do just that. Pornography is also exploitative; the investment community exploits the individual investor’s lack of knowledge. That’s why I find “investment porn” an accurate, as well as a descriptive, term for much of what passes as expert advice.
Getting Past the Porn
Fortunately, the financial media does have a few exceptions. One of them is Jason Zweig, who writes the Intelligent Investor column for The Wall Street Journal. He is also the author of “Your Money and Your Brain,” a book that I believe is required reading for all serious investors (and there should be no other kind) and “The Little Book of Safe Money.”
In fact, if Zweig has written it, I think it should be mandatory reading. So it should be no surprise he has produced another winner with “The Devil’s Financial Dictionary.”
I could not sum up the book any better than Nobel Prize-winner Robert Shiller, who said: “This is the most amusing presentation of the principles of finance that I have ever seen.”
Not only is the book wickedly humorous, irreverent and wise, it contains a wealth of knowledge regarding the historical derivation of many terms in common use today.
Highlights
While narrowing down the list was a difficult task, I’ve selected a few of Zweig’s best gems for you:
Before closing, I’ll add one of my personal favorite definitions, provided by Woody Allen. “A stockbroker is someone who invests other people’s money until it is all gone.” Here’s another definition of a stockbroker; unfortunately, the author is anonymous: Someone whose objective it is to transfer assets from your account to their account.
And author William Bernstein added this insight: “The stockbroker services his clients in the same way that Bonnie and Clyde serviced banks.” Finally, my own contribution: If you begin your investment journey dealing with a stockbroker, there’s a good chance you’ll end it dealing with another kind of broker, the pawn kind.
Zweig’s new book is just a sheer delight—and it’s now in place right next to my thesaurus. And you can be certain I’ll be referring to it often.
This commentary originally appeared November 9 on ETF.com
By clicking on any of the links above, you acknowledge that they are solely for your convenience, and do not necessarily imply any affiliations, sponsorships, endorsements or representations whatsoever by us regarding third-party Web sites. We are not responsible for the content, availability or privacy policies of these sites, and shall not be responsible or liable for any information, opinions, advice, products or services available on or through them.
The opinions expressed by featured authors are their own and may not accurately reflect those of the BAM ALLIANCE. This article is for general information only and is not intended to serve as specific financial, accounting or tax advice.
© 2015, The BAM ALLIANCE