Carpe Diem

Investment fact of the day

Despite higher average fees by a factor of 7X (0.92% for actively managed funds vs. 0.13% for index funds in 2012) and lower returns over long holding periods, there was about 9 times more money invested in actively managed mutual funds at the end of 2012 ($11.74 trillion) than in passively managed index funds ($1.31 trillion), according to the Investment Company Institute’s 2013 Investment Company Fact Book (53rd edition).

Related: An NPR story today “Resisting The Temptation To ‘Win’ When Investing” (or alternatively my title might be: “Why Are So Many Investors Willing to Throw So Much of Their Money Away?”)

13 thoughts on “Investment fact of the day

  1. I wonder if investors, or their proxies, are investing in balanced mutual funds, which implies active management, balancing a mix of bonds and stocks?

  2. There is a distribution of returns relative to the index. Some managed funds do better than the index (even net of higher fees) and some do worse. Some investors believe that certain fund managers have an knowledge edge or “hot hand” that will allow them to consistently do better than the averages. These are probably the same people who think that a .275 hitter who has just gone 8 for 12 in his last three games has a “hot bat”.
    Behavioral economists would probably call this “framing”.

    • some investors believe that certain fund managers have an knowledge edge or “hot hand” that will allow them to consistently do better than the averages.

      I agree. This is a profoundly stupid. It’s not special knowledge or a “hot hand” that delivers risk-adjusted outperformance (on average) but the strategy employed, and to adequately evaluate a strategy one needs a level of expertise most of these people don’t have. Of course, by definition, the number of funds that will outperform will be tiny.

      • that seems like a very incomplete view.

        are you trying to say that within a strategy, no one is better than anyone else?

        how could that even possibly be true?

        • If we assemble 1000 people to guess the outcomes of a set of random events, yes, some will be better than others in each trial. A few will be better than others after several trials. Fewer will be better after many trials.

  3. Mark,

    I’m guessing the answer to your question lies in how much money brokers and financial advisers make by directing their financially unsophisticated clients to high-fee actively managed funds. Particularly mutual funds managed by “stars” in the industry.

  4. There are three factors that determine long-term investment returns: 1) how much you save, 2) how long you save, and 3) the rate of return. I think most people screw up the first two factors that are the ones easiest for them to control, most reports show somewhere around 50% of people have zero or negative net worth, so the third factor does not really matter to them. What’s the difference between 8% of $0 and 10% of $0?

    For those who do save instead of spend, I think a large percentage of most people’s portfolio should be in low cost or index mutual funds for a great long-term investment potential. That’s what I do.

    • That’s smart, obviously. I mean, you really can’t argue with the superior returns to managed funds and managers who do consistently outperform are generally speaking (I know there must be rare exceptions, Morganovich) not available to the public.

      • Methinks,

        I think people who save 10% – 20% of their income over 20 to 30 years will generally be pretty well off even if they opt for the higher cost funds if they can stay away from emotional investing and attempting to time the market. I agree they will probably be better of with low-cost or index funds once a long-term savings commitment is in place.

        I think too many people try to make a short-term killing to make up for spending instead of saving for too many years. The marketing for the high-cost funds plays right into what they want to hear, and many of the funds can show the short-term results they wish to see.

        You have to love morganovich’s low-loss 2008 performance (I think he said he lost 0.8% that year while I lost 38%), but he needs a 20- to 30-year record before he can be compared to the long-term benchmarks. I had an RIA for a while, but I did not care for the roller coaster ride he took me on, so I went back to the more boring index and Vanguard funds. I dabble in stock picking and trading pairs just for fun instead of going to Vegas or buying lottery tickets. I will leave trying to make a living at it to the pros like you.

      • mehtinks-

        well, i’m not sure it’s so rare. i think an awful lot of people can beat the market. it’s just that the open ended mutual fund industry stacks the deck against them over time.

        in any give strategy, there is a limit to how much money a given manager can deploy and still beat the market.

        but, mutual fund investors tend to chase performance, so every time you do beat the market, more money flows to you.

        even usain bolt would eventually start losing a 100m sprint to you if, each time he won, they piled more weight on him.

        unfortunately, that’s how the active mutual fund space works.

        it’s not the manager than fails so much as the task that just keeps getting harder until they do.

    • Walt, I assume you have a mix of bonds, and/or bond like securities and stocks in your retirement assets. Do you manage the mix or do you have a mutual fund that balances the mix?

      • I balance to about 60% stocks and 40% bonds once a years using Vanguard low-cost mutual funds. Of course, to keep the asset allocation ratio you have to buy what is down by selling what is up unless you have new money coming in. You usually have to ignore the current media hype to make the strategy work.

        • OK, good for you. I was thinking that maybe you had a big allocation to a mutual funds in your investment portfolio, that did the balancing for you. You are saving $$ to compound in your account by rolling your own.

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