The Money Mustache Community
Learning, Sharing, and Teaching => Investor Alley => Topic started by: innerscorecard on December 29, 2014, 02:38:26 AM
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http://beginnersinvest.about.com/od/Index-Funds/fl/3-Reasons-Some-Sophisticated-Investors-Dont-Buy-Index-Funds.htm
All I ask is that you please read the article before commenting. :)
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I love indexing, but I think those points are all true.
1. A Sophisticated Investor Might Not Want to Buy an Index Fund Because He or She May Not Want to Purchase Overvalued Assets
2. A Sophisticated Investor Might Not Want to Buy an Index Fund Because He or She Might Not Want Exposure to Certain Areas of the Economy to Which His or Her Fortune Is Already Tied
3. A Sophisticated Investor Might Not Want to Buy an Index Fund Because He or She Might Want Even Better Tax Efficiency
(i.e. buy all top 200 shares, and then do tax loss harvesting by yourself)
4. Indexing by market capitalisation is stupid - you buy more of XYZ in a bubble, and buy less of XYZ in a trough. The exact opposite of what should be done. There are better options: weighted equally, weighted by profit, weighted by revenue, weighted by dividend payments, etc.
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I do indexing because I am a lazy piece of shit with a small amount of money.
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Joshua Kennon's pieces on indexing vs individual stocks are what gave me the peace of mind to go with indexing for the time being. My rational mind could not wrap itself around humans / individuals being unable to beat the market on the long term. Yet, the amount of depth he shows in analyzing stocks and companies, is a skill I will have to develop, and it will take some time to develop those, with mistakes bound to happen as well.
I do believe I will be able to pick stocks that are good deals with proper analysis, that will beat the market on the long term (10+ years) or match it with a lower risk. What I do not know is if I want to spend that time on it, and indexing is definitely the next best thing for now. The tax efficiency that appears with individual stocks is something that is hard for me to ignore however.
But those are all a bit longer term plans. For next year, I plan to pick one or two individuals stocks and make a purchase of them after analysis, while sticking the rest in good old indexes.
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Sounds great, it makes sense on paper.
But I would love to find a 'Sophisticated Investor' in the wild that has beaten the market in the long term. (And they cannot be selling something .....)
I think it's possible, but I guess anything is. My questions if we find one are:
- How much effort/time does it take? (I am a family man, and while you could compute a $/hr. that was spectacular, there are only so many hours in the day as I am still working.)
- How many have tried and failed for each one we find? This question we will never be able to answer, by default they will be harder to find.
ScroogeMcDutch (love the name). I am curious, when this year alone 85% of fund managers failed to beat the market (and long term the results are lower) .... what leads you to say:
I do believe I will be able to pick stocks that are good deals with proper analysis, that will beat the market on the long term (10+ years) or match it with a lower risk.
I am not trying to argue here or pick a fight at all, I am honestly curious, thanks for your feedback!
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Do you think that some private businesses are ever more successful than others? Do some people do real estate investing better than others? Are you trying to live a more optimized lifestyle than others?
And yet there is the dogma that once something becomes a publicly traded, regulated market, it magically becomes perfectly efficient, so that "only Warren Buffett" can ever beat it.
Your points are good ones. Most who try to beat the market do fail. But a lot do beat it as well. In fact, it's much easier as an individual investor (who has no institutional imperative or bosses or clients to deal with) than as a mutual fund or even a hedge fund. Not that it's easy. You need financial education, and a lot of hard work. And some actual skill.
But it's not all but impossible. That's a convenient and helpful lie to tell to most people, but I believe in telling the truth rather than lies.
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That person seems to have a flawed understanding of the argument for index fund. He keeps going on about "sophisticated investors" and how they can do better, but index funds are "good enough" for unsophisticated ones. Except the fact is that throughout history, millions of sophisticated investors have constantly done worse that the index. Over and over and over again. Stock pickers, no matter how sophisticated, always loose to the index eventually.
This is the same fallacy we see in every discussion about stock, that somehow a person reading enough financial statements will somehow predict the (uncertain) future better than someone else reading the exact same financial statements!
Two first ones assume that some knowledge can predict the market movements and reactions. Which simple facts show is not true.
1. overvalued assets
According to who? How do you know? Amazon has been "overvalued" for 15 years now..
2. Overexposure to sector
How does he know a cyber attack will impact tech stocks so badly? Maybe it will be good for them in the end? And for the long term why would you care? Unless you run an oil company this seems like a silly reason to avoid the most broadly diversified investment on the planet, and even if you do I don't think it makes much sense. The largest sector in VTSAX is 18%, so still over 80% in unrelated sectors! And the largest holding (AAPL) is only 3%. Even if you run Apple you'd be pretty darn well diversified.
(And btw tech is only 16% of VTSAX so I think he's pretty dumb to avoid it because he runs some tech business)
3. Is the only one that makes some sense, but even then not by much. You might pay less taxes, but you'll also have less money since you'll loose to the index. So..
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I think that the main reason so many hedge/mutual funds lose to the index is mostly due to client considerations: reducing volatility, keeping cash on hand, having to own the "hot" names, people leaving after a crash and whatnot.
I'm sure many portfolio managers would beat the market without these considerations. I know I'll give it a shot, at least.
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This is the same fallacy we see in every discussion about stock, that somehow a person reading enough financial statements will somehow predict the (uncertain) future better than someone else reading the exact same financial statements!
I would say a very high % of individual stock pickers do not read financial statements. As an indexer, you read no financial statements. Simply by the act of reading the last few Annual reports you have put yourself at an information advantage to every index investor and likely more that half of individual investors.
Its not divination. You could beat the S&P pretty easily by buying all 500 companies minus the ones where their annual reports and financials clearly point they are losing money.
By indexing you are buying into companies that are clearly bad businesses. You are also buying using market cap to dictate your weighting. Both of these points are real and undisputed. The counterpoint- is it worth your time and the expense to screen out the bad businesses and weight your portfolio more appropriately?
If you have 10k, 100k, or 1M probably not. If you have 10's of millions? Stock picking and concentrated investing is the way the majority of high net-worth individuals, endowments, and wealth funds store their money. They make better risk adjusted returns than you do in your index funds. Should you try and copy them? no.
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This is the same fallacy we see in every discussion about stock, that somehow a person reading enough financial statements will somehow predict the (uncertain) future better than someone else reading the exact same financial statements!
I would say a very high % of individual stock pickers do not read financial statements. As an indexer, you read no financial statements. Simply by the act of reading the last few Annual reports you have put yourself at an information advantage to every index investor and likely more that half of individual investors.
Its not divination. You could beat the S&P pretty easily by buying all 500 companies minus the ones where their annual reports and financials clearly point they are losing money.
By indexing you are buying into companies that are clearly bad businesses. You are also buying using market cap to dictate your weighting. Both of these points are real and undisputed. The counterpoint- is it worth your time and the expense to screen out the bad businesses and weight your portfolio more appropriately?
If you have 10k, 100k, or 1M probably not. If you have 10's of millions? Stock picking and concentrated investing is the way the majority of high net-worth individuals, endowments, and wealth funds store their money. They make better risk adjusted returns than you do in your index funds. Should you try and copy them? no.
If that was true then thousands would do so, and every single mutual fund. That's pretty darn easy! Yet something like 90% of mutual funds underperform the index over a decade. How is this then? Don't have the data for people in their basements with 10-k statements, but I'd be surprised if it was any better. This is just a matter of what the historical data shows, and unfortunately it's not as simple as "reading financial data".
A typical stock picker is a 6-figure salary hedge fund manger working on this 10+ hrs a day. And you think you'd have an information advantage by reading publicly released financial data after you eat dinner every night?
You also assume that any of this info will tell you how a business will do in the future; that you can clearly tell bad businesses from good and that's only a question of bothering to find out. Data show people can't, and unexpected changes happen.
Yes, you are right the richest of the rich do pick stocks and hedge funds etc, and usually underperform. For example college endowments doing poorly by shuffling funds and managers:
http://www.wsj.com/articles/SB10001424127887324610504578276360954805602
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Seems pretty straightforward to me. So if a relatively bright MMMer were to pick 20 stocks they would obviously pick some nice companies and not pick crappy ones. Seems like they would beat the market over the long term if they weren't traders and have tax efficiency as well.
One thing neglected in the "sophisticated" investor strategy is the failure to mention in what country and under what structure assets are held. Sophisticated investors have their money mostly in Panama and buy their ownership units through self directed trusts with no names attached. Income/capital gains taxes do not come into play and there is little or no inheritance tax. They generally hold duel citizenship as well.
Seems like indexing by design requires you to hold crap companies while reducing your ownership of stellar companies. Since that is their policy. They will ride the crap company to the bottom and reduce their ownership of great companies as they go up.
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Your points are good ones. Most who try to beat the market do fail. But a lot do beat it as well. In fact, it's much easier as an individual investor (who has no institutional imperative or bosses or clients to deal with) than as a mutual fund or even a hedge fund. Not that it's easy. You need financial education, and a lot of hard work. And some actual skill.
But it's not all but impossible. That's a convenient and helpful lie to tell to most people, but I believe in telling the truth rather than lies.
I agree with this. I do believe, as an individual, it is possible to outperform the market. Most investors do NOT read even the most basic things about the companies they are investing in. If you invest in good companies, do your research, and buy at fair (or better prices), you will do well. This is easier said than done, but it is possible.
I am not willing to invest (or even recommend investments) to others in the fashion I invest and the risk is too high. I love seeing a stock I'm invested in go down by 30%. Since I did my research before buying that stock, I know it is a good company, and not going to go to zero. And that over the long run, I'm a very confident that company will end up significantly higher than my original purchase price. So when I see a stock I own go down 30%? I buy. And buy. And turn over my mattresses in my house for loose change to try and buy one more share. 99% of people do not have the stomach (or understanding of financial markets) to do this. They will sell the stock, and lock in a guaranteed loss. As Charlie Munger says though, he loves volatility in stocks (note: volatility is different from risk. Volatility only creates risk if you sell). It gives an opportunity to start/add to positions in stocks at fair prices.
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I would say a very high % of individual stock pickers do not read financial statements. As an indexer, you read no financial statements. Simply by the act of reading the last few Annual reports you have put yourself at an information advantage to every index investor and likely more that half of individual investors.
Its not divination. You could beat the S&P pretty easily by buying all 500 companies minus the ones where their annual reports and financials clearly point they are losing money.
By indexing you are buying into companies that are clearly bad businesses. You are also buying using market cap to dictate your weighting. Both of these points are real and undisputed. The counterpoint- is it worth your time and the expense to screen out the bad businesses and weight your portfolio more appropriately?
If you have 10k, 100k, or 1M probably not. If you have 10's of millions? Stock picking and concentrated investing is the way the majority of high net-worth individuals, endowments, and wealth funds store their money. They make better risk adjusted returns than you do in your index funds. Should you try and copy them? no.
If that was true then thousands would do so, and every single mutual fund. That's pretty darn easy! Yet something like 90% of mutual funds underperform the index over a decade. How is this then? Don't have the data for people in their basements with 10-k statements, but I'd be surprised if it was any better. This is just a matter of what the historical data shows, and unfortunately it's not as simple as "reading financial data".
A typical stock picker is a 6-figure salary hedge fund manger working on this 10+ hrs a day. And you think you'd have an information advantage by reading publicly released financial data after you eat dinner every night?
You also assume that any of this info will tell you how a business will do in the future; that you can clearly tell bad businesses from good and that's only a question of bothering to find out. Data show people can't, and unexpected changes happen.
Yes, you are right the richest of the rich do pick stocks and hedge funds etc, and usually underperform. For example college endowments doing poorly by shuffling funds and managers:
http://www.wsj.com/articles/SB10001424127887324610504578276360954805602
This is from another post on why mutual fund managers have a hard time beating the indices:
This was in response to this paper http://papers.ssrn.com/sol3/papers.cfm?abstract_id=869748
Let's look at at individual investor vs an active mutual fund manager:
Transaction Costs and Securities available-
The individual investor can pay as little as $1 per trade on a couple hundred shares or $7 per trade for up to 2k shares. These shares are held at a brokerage. He submits a limit order, and the order is traded electronically. 2k shares represents about 4% of the daily volume of a relatively illiquid stock that trades 50k shares per day.
The fund manager may hold 1M or more shares. That company that trades 50k shares per day, it would take the manager well over a month to establish that position. Does the manager do this?
No, they limit themselves to stocks with more liquidity. This is one of the huge problems with index funds as well. Large well run companies are often not in the indexes because of liquidity ie. Berkshire - 200B at the time and not in the S&P.
If you are a fund manager and want to buy 1 M shares of TWC (an S&P 500 company with good liquidity) it would take you about a week to establish the position. This requires a trader to sit at a desk and manually trade large blocks of shares with other traders. This guy is billing at >$300 an hour. You also cannot say buy or sell XX at $20. These are huge positions. You will buy and sell something between $20-21 after a week your average price may be $20.10 meaning the transaction cost you 0.5% over an individual investor saying sell at $20.
Redemptions-
In 2008 an individual investor holding a IBM had the ability to sell it a buy WFC. (this is an example, it could be any company or group of companies). In this case, the individual investor would have made twice as much money in WFC than in IBM.
In '08 the fund manager was hit with people pulling money out of his fund left and right. He may have wanted to sell IBM to buy WFC, but has to sell IBM to give money back to a client. This is a huge problem for the fund managers and one of the reasons funds with lock up periods - hedge funds - or permanent capital - Berkshire out perform active mutual funds.
Window dressing-
An individual investor doesn't have to deal with this. They don't answer to clients.
The fund manager has to explain why Apple is their largest holding after the stock tanked from $700 to $450. They often sell a company after a large fall because clients may think: I'm taking my money out, this idiot didn't even predict Apple was going to lose 35%. This is dressing up your quarterly and annual reports to make them look prettier to your clients.
76% of fund manager managed to match the index despite the above working against them and while charging an average fee of 1.08%! I'm not saying this means you should be investing with active managers. I am saying they have a lot working against them and by virtue of matching the market after 2.5% worth of fees (1.08% average fund costs + 1.4% transaction expenses) and having to deal with redemptions and keeping clients happy the majority are actually beating the indices.
Believing indices beat the majority of people shows a fundamental misunderstanding of how the stock market works. The price of the S&P is the sum of what investors are willing to pay for each of 500 companies added together according to market cap. By virtue of this "voting" with money, there is a buyer and seller on every trade. One person wins and one loses. At the end of the day there is approximately a normal distribution of winners and losers. Half of the investors beat the market, half lose to it.
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Indexing is not the end all be all, but is good for most people who lack financial literacy. Take a look at what Seth Klareman has to say on indexing:
Another reason for the trend toward indexing is that many institutional investors and pension funds believe in the effi¬cient-market hypothesis. This theory holds that all information about securities is disseminated and becomes fully reflected in security prices instantaneously. It is therefore futile to try to out¬perform the market. A corollary of this hypothesis is that there is no value to incremental investment research. The efficient-market theory can be expressed, according to Louis Lowenstein, "as a much-too-simplified thesis that one stock is as good as another and that, therefore, one might as well buy thousands of stocks as any one of them."
By contrast, value investing is predicated on the belief that the financial markets are not efficient. Value investors believe that stock prices depart from underlying value and that investors can achieve above-market returns by buying undervalued securities. To value investors the concept of indexing is at best silly and at worst quite hazardous. Warren Buffett has observed that "in any sort of a contest—financial, mental or physical—it's an enormous advantage to have opponents who have been taught that it's useless to even try." I believe that over time value investors will outperform the market and that choosing to match it is both lazy and shortsighted.
Indexing is a dangerously flawed strategy for several reasons. First, it becomes self-defeating when more and more investors adopt it. Although indexing is predicated on efficient markets, the higher the percentage of all investors who index, the more inefficient the markets become as fewer and fewer investors would be performing research and fundamental analysis. Indeed, at the extreme, if everyone practiced indexing, stock prices would never change relative to each other because no one would be left to move them.
Another problem arises when one or more index stocks must be replaced; this occurs when a member of an index goes bankrupt or is acquired in a takeover. Because indexers want to be fully invested in the securities that comprise the index at all times in order to match the performance of the index, the security that is added to the index as a replacement must immediately be purchased by hundreds or perhaps thousands of portfolio managers. There are implicit assumptions in indexing that securities markets are liquid, and that the actions of indexers do not influence the prices of the securities in which they transact. Yet even very large capitalization stocks have limited liquidity at a given time. Owing to limited liquidity, on the day that a new stock is added to an index, it often jumps appreciably in price as indexers rush to buy. Nothing fundamental has changed; nothing makes that stock worth more today than yes¬terday. In effect, people are willing to pay more for that stock just because it has become part of an index.
By way of example, when Blockbuster Entertainment Corporation was added to the Standard and Poor's 500 Index in early 1991, its total market capitalization increased in one day by over $155 million, or 9.1 percent, because so many fund managers were "obliged" to buy it. Indeed, Barron's has calculated that stocks added to the Standard & Poor's 500 Index outperformed the market by almost 4 percent in the first week after their inclusion.
A related problem exists when substantial funds are commit¬ted to or withdrawn from index funds specializing in small-cap¬italization stocks. (There are now a number of such funds.) Such stocks usually have only limited liquidity, and even a small amount of buying or selling activity can greatly influence the market price. When small-capitalization-stock indexers receive more funds, their buying will push prices higher; when they experience redemptions, their selling will force prices lower. By unavoidably buying high and selling low, small-stock indexers are almost certain to underperform their indexes.
Other perverse effects of indexing are now emerging with increasing frequency. When securities are owned only because they are part of an index and the only stated goal of the owners is to match the movements of that index, the portfolio "manager" responsible for those securities has virtually no interest in influencing the performance of the index. He or she is indiffer¬ent to whether the index rises or falls in value, other than to the extent that fees are based on total managed assets valued at market prices.
This means that in a proxy contest, it makes no real difference to the manager of an index fund whether the dissidents or the incumbent management wins the fight, even though the outcome may make a significant financial difference to the clients of the indexer. (By choosing indexing, investors have implicitly expressed the belief that their vote in a proxy contest could make no predictable financial difference anyway.) Ironically, even if indexers wanted to vote in a direction that maximized value, they would have absolutely no idea which way that would be because index fund managers typically have no fundamental investment knowledge about the stocks they own.
It is noteworthy that the boom in indexing has occurred during a bull market. Between 1980 and 1990 the estimated amount of money managed in indexed accounts increased from $10 billion to about $170 billion, with 90 percent of that amount indexed to Standard & Poor's portfolios. An additional $100 billion or more is believed to be "closet indexed," that is, to track, if not exactly match, the S&P 500 Index. According to Barron's, "No little impetus has been supplied to this melancholy trend by the harsh fact that the S&P has laid waste to the performance of conventional managers during the Eighties, particularly in the past five years. For example, the S&P has beaten the average equity mutual fund in the Lipper Analytical Service, Inc., survey in 24 out of the past 31 quarters."10 The S&P 500 Index has also significantly bettered the broadly based Wilshire 5000 Index since the second half of 1983, outperforming it in twenty-three out of twenty-nine quarters; during that period the compound annual total return for the S&P 500 Index was 12.7 percent compared with 10.7 percent for the Wilshire 5000 Index.
I believe that indexing will turn out to be just another Wall Street fad. When it passes, the prices of securities included in popular indexes will almost certainly decline relative to those that have been excluded. More significantly, as Barron's has pointed out, "A self-reinforcing feedback loop has been created, where the success of indexing has bolstered the performance of the index itself, which, in turn promotes more indexing."" When the market trend reverses, matching the market will not seem so attractive, the selling will then adversely affect the performance of the indexers and further exacerbate the rush for the exits...
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Yes, obviously; in any one year half the people beat the index and half loose to it (before fees). But the people who win/loose changes from year to year. Therefore over a decade 90% loose to the index, which is always the average.
You can throw out all kinds of reasons why indexing is a terrible idea and anyone could do better simply by checking P/E or something and buying stocks, but historical facts show that indexing has won over any long term. Always.
Yes one can do better, but people don't . That's a fact. It has nothing to do with financial literacy or lack thereof.
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Believing indices beat the majority of people shows a fundamental misunderstanding of how the stock market works. The price of the S&P is the sum of what investors are willing to pay for each of 500 companies added together according to market cap. By virtue of this "voting" with money, there is a buyer and seller on every trade. One person wins and one loses. At the end of the day there is approximately a normal distribution of winners and losers. Half of the investors beat the market, half lose to it.
Eh? i don't think this works intraday. The market can end flat and someone can beat the market by buying at a low. The market can drop and a shorter wins, or the market can rise, be shorted, and then end flat -- shorter wins again. And how do you account for someone who bought yesterday and sold at the high today for a profit but the market drops at the end of the day?
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I do indexing because I am a lazy piece of shit...
This, for me too. I have no interest in spending time managing my investments.
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Yes, obviously; in any one year half the people beat the index and half loose to it (before fees). But the people who win/loose changes from year to year. Therefore over a decade 90% loose to the index, which is always the average.
You can throw out all kinds of reasons why indexing is a terrible idea and anyone could do better simply by checking P/E or something and buying stocks, but historical facts show that indexing has won over any long term. Always.
Yes one can do better, but people don't . That's a fact. It has nothing to do with financial literacy or lack thereof.
You obviously did not read what was posted. First off, the number you keep saying- 90% is something you are parroting or made up. I linked the the study that all of the articles and boggle head discussions cite to explain active mutual fund under-performance. The actual numbers: from 1975 to 2002, 21.3% of funds had returns that lagged the market, 76.6% of funds statistically matched the market, 2.1% of funds reliably beat the market. This is taking into account fees and expenses of ~2.5% (1.4% transaction costs + 1.08% expense ratio).
The FACT that 76.6% of managers matched the market while subtracting ~2.5% from their annual returns for fees and expenses proves that the majority of managers actually beat the index. They just do not do it by a wide enough margin to compensate for their fees and expenses. The argument for indexing is if 97.9% of managers match or under-perform the market, why not just index?
I think equal weight indexing is superior to active management for the individual investor. The belief everyone should index because 90% of people (made up number) under-perform the index is false. If you want to index, index intelligently (try to minimize the weaknesses in vanguard index funds). You don't have to know how to pick stocks to diversify your holdings much more appropriately than VTSAX.
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<<The FACT that 76.6% of managers matched the market while subtracting ~2.5% from their annual returns for fees and expenses proves that the majority of managers actually beat the index.>>
Right....but as mentioned, the SAME managers do not successfully do this year after year, which puts the onus on the individual investor to know when to hop in and out of funds. And I could be wrong, but I think most investors do NOT do this successfully.
Love and Kisses,
Former investor in active mutual funds who has grown his money a shit ton faster since he started indexing several years ago.
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Believing indices beat the majority of people shows a fundamental misunderstanding of how the stock market works. The price of the S&P is the sum of what investors are willing to pay for each of 500 companies added together according to market cap. By virtue of this "voting" with money, there is a buyer and seller on every trade. One person wins and one loses. At the end of the day there is approximately a normal distribution of winners and losers. Half of the investors beat the market, half lose to it.
Eh? i don't think this works intraday. The market can end flat and someone can beat the market by buying at a low. The market can drop and a shorter wins, or the market can rise, be shorted, and then end flat -- shorter wins again. And how do you account for someone who bought yesterday and sold at the high today for a profit but the market drops at the end of the day?
I'm not sure I follow. For every buy/sell there is another person on the other side of the trade. Say you buy in the morning at $10 it goes to $11 at noon and you sell to person B. By the close the stock is back to $10. You made $1, person B lost $1 and the day is recorded as flat. The thing to remember about the market is there is someone on the other side of every trade.
Say you wan to buy VTI. Maybe there are no sellers at $107 but and 107.50 there is a guy with 10 shares that will sell them to you. At 108 there are 9 people who will sell you 10 shares. This is just an anecdote for how stock prices move. In this case, your order for 100 shares of VTI moved the price from 107 to 108 because there were not enough sellers at 107. This same thing happens on a much larger scale in the market. Buyers are constantly bidding what they want to pay and sellers what they will take. If there are more buyers than sellers at a price then the price moves up to find more sellers. The opposite happens when the price is moving down.
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<<The FACT that 76.6% of managers matched the market while subtracting ~2.5% from their annual returns for fees and expenses proves that the majority of managers actually beat the index.>>
Right....but as mentioned, the SAME managers do not successfully do this year after year, which puts the onus on the individual investor to know when to hop in and out of funds. And I could be wrong, but I think most investors do NOT do this successfully.
Love and Kisses,
Former investor in active mutual funds who has grown his money a shit ton faster since he started indexing several years ago.
This is from 1975 to 2002. The SAME managers successfully did this for 27 years. This is not fund hopping. This is if you picked a random active mutual fund in 1975 and kept it for 27 years, you had a 76.6% chance of matching the market after fees and expenses, a 2.1% chance of significantly beating it, and a 21.3% chance of under-performing.
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I'm not sure I follow. For every buy/sell there is another person on the other side of the trade. Say you buy in the morning at $10 it goes to $11 at noon and you sell to person B. By the close the stock is back to $10. You made $1, person B lost $1 and the day is recorded as flat. The thing to remember about the market is there is someone on the other side of every trade.
If I buy 200 shares with a basis of $100 and sell them to 2 different people at $101, I'd be up $1/share. If the stock closes at $100 (flat), the 2 buyers would be losers for the day. 1 outperformed, 2 underperformed.
It seems more accurate to claim that the money in any trade is an equal sum game rather than the number of participants. I'm not even sure that's technically true given that there are options and futures leverage and market makers and margin (= additional money added to the market).
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This is from 1975 to 2002. The SAME managers successfully did this for 27 years. This is not fund hopping. This is if you picked a random active mutual fund in 1975 and kept it for 27 years, you had a 76.6% chance of matching the market after fees and expenses, a 2.1% chance of significantly beating it, and a 21.3% chance of under-performing.
I'm fairly certain that the study you refer to doesn't factor out survivor bias. What if a fund closes in the 27 year period?
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Sounds great, it makes sense on paper.
But I would love to find a 'Sophisticated Investor' in the wild that has beaten the market in the long term. (And they cannot be selling something .....)
I think it's possible, but I guess anything is. My questions if we find one are:
- How much effort/time does it take? (I am a family man, and while you could compute a $/hr. that was spectacular, there are only so many hours in the day as I am still working.)
- How many have tried and failed for each one we find? This question we will never be able to answer, by default they will be harder to find.
ScroogeMcDutch (love the name). I am curious, when this year alone 85% of fund managers failed to beat the market (and long term the results are lower) .... what leads you to say:
I do believe I will be able to pick stocks that are good deals with proper analysis, that will beat the market on the long term (10+ years) or match it with a lower risk.
I am not trying to argue here or pick a fight at all, I am honestly curious, thanks for your feedback!
Thanks Re: Name :D
TL;DR:
I think it may be possible to defeat the index, but don't know if I have the skill and/or information. The same is true for any average investor and is best served with index funds.
This is going to get into a stock-picking vs indexing discussion quickly. I was very careful in my wording as I know this might be considered heresy on this forum, and I do think you need to be very diligent in picking your stocks as well as . There are different types of trying to beat the market. There is a day-trading and derivatives-trading market. That one is, in my opinion, for an individual investor impossible to beat. Anything that's remotely interesting is snagged off the market before you see it on your screen. Then there is the long-term stock market, which is what we are interested in here on MMM. When talking "the index" in the next part, just read S&P 500 as that will do for the index.
I have a business background, so I should be able to read and understand financial statements. I should also be able to advise for a business direction, as part of the work I do professionally. I currently do not have the skills to take these financial statements, look at global developments, and determine if a price asked for a stock is a good valuation of the underlying company - these I would have to develop if I have any hope of beating the index through choosing a different portfolio of companies than the index provides.
The index has as a goal to best measure US stock market performance, and decides to pick 500 (arbitrary?) largest capitalization companies on the US stock market, and weights them using market capitalization/float. Induction and removal from the index passes a committee, is what I quickly read up on wikipedia.
1) Time for some theoreticic blabla
Basically, let's say the following. A stock in the index has an certain expected and unknown return Ri and volatility Vi. Stocks outside of the index have a certain expected and unknown return Ro and volatility Vo.
Ri=Ro
If it would be impossible to beat the index in terms of return, then Ri = Ro and it wouldn't matter if I picked stocks inside or outside the index in terms of return on investment. That would leave a difference in the amount of volatility experienced and risk ran.
If Vi = Vo as well, then picking more stocks rather than less would be the better choice. The amount of volatility experienced from the sum of stocks with the same underlying volatility is reduced with each addition of an extra stock. Basically the reason why one would not pick one stock, and picks 500 based on S&P 500 at the moment.
If Vi > Vo, then obviously adding lower volatile stocks would be better.
If Vi < Vo, then addition might still reduce overall risk, but may also increase it. This would basically mean we get higher volatility as companies have a lower capitalisation. [This is an effect we actually see in the market, small cap is more volatile/risky than large and megacap, so this is the more interesting hypothesis]. This would mean there is a negative correlation between capitalisation and volatility. The larger they are, the less volatile they would tend to be. If this is the case, then that correlation would have to be 0 for all the stocks inside the index (all 500 equally volatile), and then suddenly lower than 0 for stocks outside the index for it to be true that one cannot beat the index on either return or risk.
Ri < Ro
Simple to beat the index in this case, pick stocks outside of the index in order to have a higher expected return.
Ri > Ro
In this case, it is comparable to the Vi < Vo when Ri=Ro above. There is apparently a relationship between size of capitalisation and the expected return of the stock. This correlation would have to be 0 for all 500 inside the index, and negative outside for it to be true that one cannot beat the index on return.
Note that if Ri and Vi are also equal between the companies inside the index, then the weighting doesn't matter at all. If it is not the same, then you could start a same type of argument for the weighting method.
2) Stocks in the S&P 500 are in higher demand
As shown by all the index funds and mutual funds trying to mimic the S&P500 and other indexes and the people here on the forum. As soon as a stock hits the S&P500 index, then demand for those stocks spikes. The following paper talks a bit about this effect: http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1152224 - a stock will increase in price between 2.7% and 5.4% after announcement to the index. This effect doesn't work the other way, leaving the index doesn't seem to have a permanent price impact (if the companies exist longer time after the deletion). These effects point to Ro > Ri. Only if the returns of the other companies that stay outside of the S&P500 are much below Ri then it could compensate back to Ri >= Ro.
3) Valuations don't matter / reversion to the mean
This falls under the market timing category. If valuations and other fundamental values do not matter as per most of the index proponents here, then any form of market timing is impossible. If the stock market rises 10% tomorrow, then we expect still the same result per dollar invested, compared to if the stock market drops 10% tomorrow. The phrase here is "the stock market might crash tomorrow, but you don't know when it will crash and you will lose out on too much in terms of return by sitting at the sideline". Yet the same people will be the ones screaming "stock market is on sale" when prices do drop. By the same reasoning, it can never be on sale, as you expect the same return per dollar invested (and by the same reasoning, you just lost a crapload of time to FIRE)? Those two contradict each other and not many who scream both seem to understand that.
First conclusion
Based on all of the above, I cannot believe the statement "One cannot beat the index on return and volatility" to be true theoretically. Whether practically that one can beat it, is another statement itself, and one that I am not yet thoroughly convinced of, and that doubt is mostly caused by potential transaction costs. However, I do think it is possible to do what Scandium stated as a fallacy: "This is the same fallacy we see in every discussion about stock, that somehow a person reading enough financial statements will somehow predict the (uncertain) future better than someone else reading the exact same financial statements!". This is mostly true for companies that have a massive amount of speculative value, such as amazon, facebook etc and I would agree with that statement for those. For companies that are mostly 'done' such as for example Coca Cola, it becomes about evaluating the financial statements to other companies in a similar situation, and deciding where you get the best value for money. You also do this when buying something, and you compare quality and value of the item you are going to purchase.
Now to read the 16 other replies ;)
Joshua Kennon is in my list of blogs to follow/read, along with jhcollinsnh and MMM - lot's of wisdom there and coming from a similar angle.
TL;DR:
I think it may be possible to defeat the index, but don't know if I have the skill and/or information. The same is true for any average investor and is best served with index funds.
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This is from 1975 to 2002. The SAME managers successfully did this for 27 years. This is not fund hopping. This is if you picked a random active mutual fund in 1975 and kept it for 27 years, you had a 76.6% chance of matching the market after fees and expenses, a 2.1% chance of significantly beating it, and a 21.3% chance of under-performing.
I'm fairly certain that the study you refer to doesn't factor out survivor bias. What if a fund closes in the 27 year period?
The data was for funds with at least 5 years of available data. So perhaps there is some survivor bias for younger funds. The study used 1569 funds. The study recorded each fund's alpha vs the S&P for each year net of fees and expenses. Then any under/out performance that was statistically luck was eliminated.
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Can we please start a new thread as a "competition" where people invest an imaginary 100k, we build a spreadsheet to track the fake data and see how many people who think they can beat an index because it is so easy actually do. I think Bogleheads does something similar.
Although it would not prove over the long haul of 10-20 years it would be interesting to see just over 1 year.
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Okay. As I always do when I'm confused, I went back to the original article that cites this 76.6% statistic:
http://www-stat.wharton.upenn.edu/~steele/Courses/956/Resource/MultipleComparision/FDRMutualFundAlphas.pdf
Abstract: "Using a large cross-section of U.S. domestic-equity funds, we find that 76.6% of them have zero alphas. 21.3% yield negative performance and are dispersed in the left tail of the alpha distribution. The remaining 2.1% with positive alphas are located at the extreme right tail."
Why would I buy an actively managed fund? If I had some reason to believe that the manager was able to generate alpha. This study shows that only 2.1% of managers are able to do so. This article is the strongest proof I could possibly want of the value of index funds. In fact, I am wondering if the "90%+ of managers can't beat the market" actually comes from here, since 76.6% plus 21.3% equals 97.9%.
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TL;DR:
I think it may be possible to defeat the index, but don't know if I have the skill and/or information. The same is true for any average investor and is best served with index funds.
I'd agree with this. Only problem is that 99% of stock-picking enthusiast think they are above average:) "Well, 100 years of historical data says it won't work, but I think I can do it!"
I need to check my copy of "common sense on mutual funds" to find the study on fund over/under-performance. The number I remember was 80-90% underperformed.
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Why would I buy an actively managed fund? If I had some reason to believe that the manager was able to generate alpha. This study shows that only 2.1% of managers are able to do so. This article is the strongest proof I could possibly want of the value of index funds. In fact, I am wondering if the "90%+ of managers can't beat the market" actually comes from here, since 76.6% plus 21.3% equals 97.9%.
So, without weighing in on the merits of the arguments, there seems to be some confusion on the point of debate.
I don't see anyone in this thread arguing that actively managed funds are a good idea. The argument is that someone with the skill set of an active fund manager can out-perform an index fund if they are managing their own money and directly investing in stocks. Supporters of this argument are claiming that this is because their returns will no longer have a drag from (among other things) management fees, restrictions on which stocks to buy, purchases that move the market, client redemption, dumping stocks to make the quarterly report look good, etc.
One piece of evidence being used to support this claim is that 75% of funds in the Wharton study matched the market despite a 2.5% drag on returns due to fees, suggesting that those same fund managers would have beat the market by 2+% if they were directly investing their own money the same way they were investing other people's money.
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I'm not sure I follow. For every buy/sell there is another person on the other side of the trade. Say you buy in the morning at $10 it goes to $11 at noon and you sell to person B. By the close the stock is back to $10. You made $1, person B lost $1 and the day is recorded as flat. The thing to remember about the market is there is someone on the other side of every trade.
If I buy 200 shares with a basis of $100 and sell them to 2 different people at $101, I'd be up $1/share. If the stock closes at $100 (flat), the 2 buyers would be losers for the day. 1 outperformed, 2 underperformed.
It seems more accurate to claim that the money in any trade is an equal sum game rather than the number of participants. I'm not even sure that's technically true given that there are options and futures leverage and market makers and margin (= additional money added to the market).
This is absolutely true. The number of participants does not matter only the number of shares. That's why I gave the second example of buying 100 shares from 10 individuals with only 10 shares a piece!
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Why would I buy an actively managed fund? If I had some reason to believe that the manager was able to generate alpha. This study shows that only 2.1% of managers are able to do so. This article is the strongest proof I could possibly want of the value of index funds. In fact, I am wondering if the "90%+ of managers can't beat the market" actually comes from here, since 76.6% plus 21.3% equals 97.9%.
So, without weighing in on the merits of the arguments, there seems to be some confusion on the point of debate.
I don't see anyone in this thread arguing that actively managed funds are a good idea. The argument is that someone with the skill set of an active fund manager can out-perform an index fund if they are managing their own money and directly investing in stocks. Supporters of this argument are claiming that this is because their returns will no longer have a drag from (among other things) management fees, restrictions on which stocks to buy, purchases that move the market, client redemption, dumping stocks to make the quarterly report look good, etc.
One piece of evidence being used to support this claim is that 75% of funds in the Wharton study matched the market despite a 2.5% drag on returns due to fees, suggesting that those same fund managers would have beat the market by 2+% if they were directly investing their own money the same way they were investing other people's money.
Exactly.
This is not a recommendation for actively managed funds. Only an argument that the common stat that 98% of mutual fund managers do not beat the market is flawed. The paper says ~79% of mutual fund managers do beat the market by 2.5%+.
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Why would I buy an actively managed fund? If I had some reason to believe that the manager was able to generate alpha. This study shows that only 2.1% of managers are able to do so. This article is the strongest proof I could possibly want of the value of index funds. In fact, I am wondering if the "90%+ of managers can't beat the market" actually comes from here, since 76.6% plus 21.3% equals 97.9%.
So, without weighing in on the merits of the arguments, there seems to be some confusion on the point of debate.
I don't see anyone in this thread arguing that actively managed funds are a good idea. The argument is that someone with the skill set of an active fund manager can out-perform an index fund if they are managing their own money and directly investing in stocks. Supporters of this argument are claiming that this is because their returns will no longer have a drag from (among other things) management fees, restrictions on which stocks to buy, purchases that move the market, client redemption, dumping stocks to make the quarterly report look good, etc.
One piece of evidence being used to support this claim is that 75% of funds in the Wharton study matched the market despite a 2.5% drag on returns due to fees, suggesting that those same fund managers would have beat the market by 2+% if they were directly investing their own money the same way they were investing other people's money.
That is correct. I'd argue that individual stock-pickers do no better, and likely worse. But I'd love to see some data for or against this! Most studies are just concerned with fund managers.
Another datapoint is hedge funds, which are closed (thus smaller and not faced with many limitations of mutual funds) and can do whatever the heck they want. They have not outperformed the market either, even before their outrageous fees.
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That is correct. I'd argue that individual stock-pickers do no better, and likely worse. But I'd love to see some data for or against this! Most studies are just concerned with fund managers.
One problem, I think, is that even if it is true that a skilled investor can beat the market, the people who might have the knowledge, experience and temperament to do it can make a shit-ton more money buy sticking their own stash in a couple mutual funds and drawing a big salary from an investment house.
Another datapoint is hedge funds, which are closed (thus smaller and not faced with many limitations of mutual funds) and can do whatever the heck they want. They have not outperformed the market either, even before their outrageous fees.
Data?
I have no doubt hedge funds lose big-time after fees, that seems like a no-brainer. But I'm skeptical about the claim before-fees without something to back it up.
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That is correct. I'd argue that individual stock-pickers do no better, and likely worse. But I'd love to see some data for or against this! Most studies are just concerned with fund managers.
One problem, I think, is that even if it is true that a skilled investor can beat the market, the people who might have the knowledge, experience and temperament to do it can make a shit-ton more money buy sticking their own stash in a couple mutual funds and drawing a big salary from an investment house.
Another datapoint is hedge funds, which are closed (thus smaller and not faced with many limitations of mutual funds) and can do whatever the heck they want. They have not outperformed the market either, even before their outrageous fees.
Data?
I have no doubt hedge funds lose big-time after fees, that seems like a no-brainer. But I'm skeptical about the claim before-fees without something to back it up.
http://www.washingtonpost.com/business/a-hedge-fund-for-you-and-me-the-best-move-is-to-take-a-pass/2013/05/23/17e4689c-c1b3-11e2-ab60-67bba7be7813_story.html
The latest performance data (via the HFRX Global Hedge Fund Index) reveal that hedge funds haven’t fared well at all: They returned a mere 3.5 percent in 2012, while the S&P 500-stock index gained 16 percent. Over the past five years, and the hedge fund index lost 13.6 percent, while the indices added 8.6 percent. That’s as of the end of 2012; it has only gotten worse in 2013. Most hedge funds have fallen even further behind their benchmarks this year, gaining 5.4 percent vs. the market’s rally of 15.4 percent. As a source of comparison, the average mutual fund is up 14.8 percent.
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Believing indices beat the majority of people shows a fundamental misunderstanding of how the stock market works. The price of the S&P is the sum of what investors are willing to pay for each of 500 companies added together according to market cap. By virtue of this "voting" with money, there is a buyer and seller on every trade. One person wins and one loses.
The price of a share is the amount that the last buyer was willing to pay for a usually ridiculous tiny amount of shares in a company for which he or she found a seller. The price of the S&P is the what 500 individual buyers paid for their shares.
Buying a company (which buying shares is) is fundamentally no different from buying eggs at the grocery store. Care to explain why someone is loosing and someone is winning when buying eggs?
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This is from 1975 to 2002. The SAME managers successfully did this for 27 years. This is not fund hopping. This is if you picked a random active mutual fund in 1975 and kept it for 27 years, you had a 76.6% chance of matching the market after fees and expenses, a 2.1% chance of significantly beating it, and a 21.3% chance of under-performing.
I'm fairly certain that the study you refer to doesn't factor out survivor bias. What if a fund closes in the 27 year period?
The data was for funds with at least 5 years of available data. So perhaps there is some survivor bias for younger funds. The study used 1569 funds. The study recorded each fund's alpha vs the S&P for each year net of fees and expenses. Then any under/out performance that was statistically luck was eliminated.
If you only count the funds from 1975 which are still around, those numbers make sense. This is because the poor performing funds are killed off. The only funds which stick around for that long, are the funds which performed well. If you choose a random fund from 1975, chances are your fund wouldn't be around today. Survivorship Bias (http://en.wikipedia.org/wiki/Survivorship_bias) is definitely a factor here.
"Of the 355 equity funds in 1970, fully 233 of those funds have gone out of business. Only 24 oupaced the market by more than 1% a year. These are terrible odds." Jack Bogle (2007)
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This study shows that only 2.1% of managers are able to do so. This article is the strongest proof I could possibly want of the value of index funds. In fact, I am wondering if the "90%+ of managers can't beat the market" actually comes from here, since 76.6% plus 21.3% equals 97.9%.
No, the study shows that in 76.6% it doesn't matter whether you buy an index fund or an actively managed fund, because the active fund generates the same result after fees as the index fund. For the remaining part, though, you are 900% more likely to loose money than to earn money.
And even that isn't correct, because the percentage is the number of funds rather the total money invested...
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Believing indices beat the majority of people shows a fundamental misunderstanding of how the stock market works. The price of the S&P is the sum of what investors are willing to pay for each of 500 companies added together according to market cap. By virtue of this "voting" with money, there is a buyer and seller on every trade. One person wins and one loses. At the end of the day there is approximately a normal distribution of winners and losers. Half of the investors beat the market, half lose to it.
Incorrect. "Dollars" does not equal "Investors". It is certainly possible for the majority of "Investors" to underperform the average, but it is not possible for the majority of all "Dollars" to underperform the average. Over the long term, the index does beat the majority of people. The longer the time period, the larger the gap. This isn't opinion, it is an observable fact. Indexing (taking the average) guarantees you will beat or match at least half of the dollars invested in the market each year, every single year, for as long as your investing horizon happens to be. When the gains are compounded, it's incredibly difficult to beat this.
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The term I used was "generate alpha". I stand by what I said.
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Win/Lose
Tight/Loose
That is all.
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The term I used was "generate alpha". I stand by what I said.
alpha is after expenses. Market average to me is before expenses. The alpha is zero, because they make more than the market average, but collect this in fees and transaction expenses.
Win/Lose
Tight/Loose
Thanks. It's one of those words that is difficult to spell as someone who is speaking English as a second language...much like latter and ladder.
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If you only knew the number of native English speakers who don't know the difference between loose and lose!
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If you only knew the number of native English speakers who don't know the difference between loose and lose!
See previous posts in this thread. ;)
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I've always wondered if a lot of the edge that fund managers and brokers had back in the day was access to insider information via the social clubs, information given out over golf clubs, and other "Old Boy" networks?
Today they don't have that with SOX and other laws.
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Another silly article which fails to mentions the fact that the laws of math and statistics says I will beat a vast majority of active investors over my lifetime......from Buffet on down.
All this while doing nothing:) I have better things to do with my life than try to squeeze out a couple extra points after 40-50 years of investing.
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Another datapoint is hedge funds, which are closed (thus smaller and not faced with many limitations of mutual funds) and can do whatever the heck they want. They have not outperformed the market either, even before their outrageous fees.
Data?
I have no doubt hedge funds lose big-time after fees, that seems like a no-brainer. But I'm skeptical about the claim before-fees without something to back it up.
http://www.washingtonpost.com/business/a-hedge-fund-for-you-and-me-the-best-move-is-to-take-a-pass/2013/05/23/17e4689c-c1b3-11e2-ab60-67bba7be7813_story.html
The latest performance data (via the HFRX Global Hedge Fund Index) reveal that hedge funds haven’t fared well at all: They returned a mere 3.5 percent in 2012, while the S&P 500-stock index gained 16 percent. Over the past five years, and the hedge fund index lost 13.6 percent, while the indices added 8.6 percent. That’s as of the end of 2012; it has only gotten worse in 2013. Most hedge funds have fallen even further behind their benchmarks this year, gaining 5.4 percent vs. the market’s rally of 15.4 percent. As a source of comparison, the average mutual fund is up 14.8 percent.
Christ on a cracker. Well, there you go.
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I see that many of those responding here sadly haven't actually read the article, and are responding to a straw man, not the actual arguments in the article.
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I love the underlying theme of the article: Those of you more sophisticated investors who wish to beat the indexes shouldn't be investing in the indexes entirely.
Um yeah....no shit Sherlock! :)
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Parts of the original article sound like an argument in favour of RAFI Fundamental Indexing Methodology. Anyone here have experience with these products? I find that the fees are still a bit high but they definitely hold potential.
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I was looking on his site to see if there was a log of his historical returns. I couldn't find that (though the reply after this one posted a link to it), but I did find this:
#2 What Are Your Ultimate Plans?
Within 5 years, I hope to consolidate everything I own into a single hedge fund or holding company and issue equity to outside investors. I’m also considering launching a value based mutual fund for regular investors who want to buy shares of global stocks and bonds using the same method I use to choose investments for my firm.
#4 What Stock Should I Buy?
Don’t ask me this because I’m not going to tell you what I’m buying, selling, or trading. I will, however, tell you how I find companies, what I look for, and the philosophy I used to achieve what I did because men before me were generous and shared their knowledge with me. At some point, when I launch a mutual fund, hedge fund, or take the holding company public, if you want to own what I own, you can just buy shares of whatever vehicle I choose to utilize.
Not to say that the guy hasn't written quality articles with valid points, but it helps to understand where someone is coming from.
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Another silly article which fails to mentions the fact that the laws of math and statistics says I will beat a vast majority of active investors over my lifetime......from Buffet on down.
All this while doing nothing:) I have better things to do with my life than try to squeeze out a couple extra points after 40-50 years of investing.
I think you are missing the point of the article and the arguments in this thread. The common parroting around here is the index is impossible to beat, yet the same paper used incorrectly to cite this actually started 78% of mangers beat the index before fees and expenses.
The article linked in this thread simply explains why those with the aptitude choose to invest their own money. Over the long term, it's likely that someone with the aptitude of a fund manager will slightly beat the market by 1-2%.
For those with the temperament, earning an extra couple of % is the difference between retiring well and rich.
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On the one hand, I believe that the efficient market hypothesis is wrong (though it still offers important insights into the market). On the other hand, I'm aware of the behavioral economics literature, the Dunning-Kruger effect, etc.
Putting the two together, it should be possible for someone who is actually a "sophisticated investor" to beat the market. The problem is that a lot of people who think they are "sophisticated investors," aren't. The other problem is that even if a person has the technical ability to beat the market, they may not have the emotional/psychological ability to do it.
I've only had any kind of net worth for a handful of months, and I don't yet trust either my technical or psychological skills to direct my own investments. Once I've watched the markets rise and fall while I now have "skin in the game," and after reading A LOT more to build the technical side, I may try to pick stocks for myself. Or, more likely, I'll try to invest in some real estate. There seems to be a disconnect between the MMM received wisdom of maximum diversification via indexing, and putting many of your eggs in one basket via investment properties.
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Believing indices beat the majority of people shows a fundamental misunderstanding of how the stock market works. The price of the S&P is the sum of what investors are willing to pay for each of 500 companies added together according to market cap. By virtue of this "voting" with money, there is a buyer and seller on every trade. One person wins and one loses.
The price of a share is the amount that the last buyer was willing to pay for a usually ridiculous tiny amount of shares in a company for which he or she found a seller. The price of the S&P is the what 500 individual buyers paid for their shares.
Buying a company (which buying shares is) is fundamentally no different from buying eggs at the grocery store. Care to explain why someone is loosing and someone is winning when buying eggs?
The stock market is not like buying eggs at the market... The end are a commodity which is produced and consumed.
The stock market operates more like this:
Imagine going to a baseball card trading convention with a stack of cards you think is worth $500 and $500 in cash. You want to leave the weekend with the most money and cards you can. There are 10,000 other people there with the same objective. At the end of the weekend there will be winners and losers. Some with more cards and money. The convention happens every weekend. Some cards are perceived to be more valuable as players perform better etc. After a year there will be clear winners and losers but if no one brought new cards and money, it would be a zero sum game overall. If you ended with 2000 in cards and money, those earnings came from someone else not trading as well.
The stock market it obviously more complicated than this, but the point to take away is on the other side of the trade there is someone who is buying because they believe the stock will be more valuable in the future, or selling because they have a better use/return on the money tied up in the stock.
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After reading the arguments here I rule the lazy shall continue to buy index funds and the sophisticated shall outperform them by 3% per year on average, thus increasing their SWR to around 6% and decreasing their needed st ache by one half. Seems it might be worth ones time to buy some good companies and quit buying shit companies via indexes. Mutual fund buyer = ignorant, index fund buyer = lazy, good company buyers from Panamanian trust funds = sophisticated.
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Let's talk about the experts. How about David Swensen, who runs the Yale Endowment? He's had a pretty good run. When asked to write a book for individual investors, he declined, saying that individual investors should buy low cost index funds. How about Warren Buffett? He has stipulated that, after he dies, his wife's money should be 80% in an equity index fund, preferably Vanguard's. I'm not going to convince anybody here, because seriously, this stuff is like religion, but I have worked with Fed governors, derivatives traders, and more finance and economics professors than I can count. Where is their personal money? In index funds at Vanguard.
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Joshua has a post with his historical returns on his personal site. He has beaten the market over cycles with less risk. And it's not just him. Many individual private investors do so. It's in fact much easier as a private investor than as a mutual fund or hedge fund.
That's not to say that it's easy. It's very hard and requires either a financial background or intensive self-study in finance and accounting.
But it's not impossible. To say it's impossible or you can only do it if you're lucky is a useful lie because it makes you believe indexing is the only way to go. In fact, indexing is a good way to go for most people. But I believe in doing things for the right reasons, not the wrong ones.
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It's quite remarkable to me that some posters in this thread think they know more about investing than Joshua Kennon, especially the posters dismissing him out of hand. It is a bit like another thread I saw where some people were suggesting that Buffett lacked skill.
Not dismissing the man or his investing knowledge but the article is a bit odd and states the obvious. Like i said, he's missing a huge point: basic math proves that passive index investors beat active investors overwhelmingly.
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Another silly article which fails to mentions the fact that the laws of math and statistics says I will beat a vast majority of active investors over my lifetime......from Buffet on down.
All this while doing nothing:) I have better things to do with my life than try to squeeze out a couple extra points after 40-50 years of investing.
I think you are missing the point of the article and the arguments in this thread. The common parroting around here is the index is impossible to beat, yet the same paper used incorrectly to cite this actually started 78% of mangers beat the index before fees and expenses.
The article linked in this thread simply explains why those with the aptitude choose to invest their own money. Over the long term, it's likely that someone with the aptitude of a fund manager will slightly beat the market by 1-2%.
For those with the temperament, earning an extra couple of % is the difference between retiring well and rich.
Ive never seen an argument here that says the index was impossible to beat......just not likely.
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Where is their personal money? In index funds at Vanguard.
This..... big time! ^^
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Buffett's public advice is also very different from his private advice and what he does. He also just gives so much advice that a lot of it is contradictory. He always talks about buying companies with moats and competitive advantages, but he does do cigar-butt net-net investing whenever he has the opportunity, even quite recently (see PetroChina, Daehan Flour Mills, etc.).
He says individual investors should index, but he also talks about how someone can do what he did in the '50s (invest in obscure securities and make high rates of return) now, too, many of the same factors exist.
The point is that disciplined index investing is in fact the optimal strategy for the vast majority of people. But that doesn't mean it's literally the only strategy that works for anyone. MMM is about DIY. If someone has the aptitude and interest in becoming educated in finance and accounting, and the emotional discipline to invest in individual securities, and the willingness to spend a lot of time on it, they may in fact be able to beat the market (or otherwise achieve their individual goals that may not have to do with beating the market as such, which was the point of Joshua's article).
It's like saying no one should make furniture because everyone can buy cheap furniture at IKEA. If you have the aptitude and ability to make furniture, it can still make sense for you because you can make better furniture and you have fun doing it. If you can get good results and enjoy the process, you shouldn't be ostracized as only a lucky gambler because you aren't only investing in index funds.
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Very well worded Innerscorecard. Like I said in my previous posts, combining what Joshua has written on his blog, together with what MMM and jhcollinsnh have written on theirs gave me the comfort to go with index investing. Joshua displays the knowledge I think I should have before stepping into individual securities, and I am missing that. Most of the individual investors will miss that knowledge, but also miss that they should have this knowledge before stepping into it. They buy Apple because they make sweet iPhones, not because they consider Apple to have a fair valuation and compared it to Samsung and considered Apple to be the better buy.
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The stock market it obviously more complicated than this, but the point to take away is on the other side of the trade there is someone who is buying because they believe the stock will be more valuable in the future, or selling because they have a better use/return on the money tied up in the stock.
You seem to treat shares like a collector's item that has no inherent value and derives all value from what others collectors will pay for it. That is fine. But please do not assume that everyone else shares this point of view.
To me stock is owning part of a company. When I buy specific shares then because I believe the company will provide value in the future. When I buy, I win, because I get a great company for my money. When I sell, I win, because I get something I value more than this particular stock: cash. I'm sorry that you seem to lose half of the time.
A stock exchange differs from a trade convention in one other way. At a convention there are a significant portion of all collectors for a prolonged period. Only few share holders, however, trade shares every single day. Apple has 5.68 billion shares, but only 50 millions are traded on average. For most companies that percentage is even lower. The market price therefore does not reflect the valuation of the majority of investors in a particular stock.
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I'm not going to convince anybody here, because seriously, this stuff is like religion, but I have worked with Fed governors, derivatives traders, and more finance and economics professors than I can count. Where is their personal money? In index funds at Vanguard.
Come on now. Fed governors have a political, ethical and (I think) legal obligation to not invest in individual companies. Many trading houses restrict what traders can do with their personal investments. Just about the only similarity between economics and investing is that their calculations both use dollar signs.
As for the finance professors, just like Scrooge and innerscorecard have been saying, even if they possess the knowledge to invest directly, they probably understand better than most how much experience, free time, emotional control, and starting capital are required to succeed.
After following this thread, I see the following as true:
-At least 99.9% of people (and probably more) will achieve optimal returns by indexing
-The Wharton study concluded that the typical actively managed fund slightly under-performs its index after expenses.
-The Wharton study also says, "about 80% of the funds generate a sufficient performance to cover their fees."
-Mutual funds have some or all of the following disadvantages vis-a-vis a wealthy individual investor: management fees, transactions that move the market against themselves, corporate directives, restrictions against certain types of investment, restrictions against small companies, not allowed to buy into private companies, client redemption, money coming in during up markets and going out during down markets, quarterly reports that must "look good", volatility in returns is punished by clients
Based on this, I believe that:
-No one should ever invest in an actively managed mutual fund.
-You and I and (probably) every single individual on this forum should index.
-There is evidence that professional money managers are able to beat their benchmark indices by 1-2% on average.
-The above cannot be explained solely by survivorship bias.
-A successful money manager requires not just business and investment knowledge, but also the time and interest to make investing a full-time occupation, and must have the temperament to apply their investment plan with zero emotion.
-Most people who think they have those skills actually don't.
-There is a very small group of people out there with the skills and bankroll to invest their personal fortune directly and have an expected return that beats the market over the long term, on a risk-adjusted basis.
-Most of that very small group could make more money by sticking their own money in an index and going to work for a mutual fund.
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Sounds great, it makes sense on paper.
But I would love to find a 'Sophisticated Investor' in the wild that has beaten the market in the long term. (And they cannot be selling something .....)
Can't really claim long term as I haven't been investing for ten years, but the keys to knowledge on beating the market while controlling risk aren't complex. Wallstreet just ignores them.
I think it's possible, but I guess anything is. My questions if we find one are:
- How much effort/time does it take? (I am a family man, and while you could compute a $/hr. that was spectacular, there are only so many hours in the day as I am still working.)
This year I've made two new purchases. One is currently up 10% since March, the other is up 35% since July. The method I follow is decades old, though with modern stock screening tools, they can potentially cut a ton of the leg work out.
- How many have tried and failed for each one we find? This question we will never be able to answer, by default they will be harder to find.
First couple years was meh. Then I got spanked really, really hard. Then I learned to control emotion and be patient and since then things have become pretty streamlined. Controlling emotion is the most important aspect.
ScroogeMcDutch (love the name). I am curious, when this year alone 85% of fund managers failed to beat the market (and long term the results are lower) .... what leads you to say:
I do believe I will be able to pick stocks that are good deals with proper analysis, that will beat the market on the long term (10+ years) or match it with a lower risk.
I am not trying to argue here or pick a fight at all, I am honestly curious, thanks for your feedback!
Last bit is easy; most fund managers shouldn't be managing funds. The funds have been commercialized. It's no longer a group of people focusing on what they're good at, its corporations looking for profits by running funds.
Do you think that some private businesses are ever more successful than others? Do some people do real estate investing better than others? Are you trying to live a more optimized lifestyle than others?
And yet there is the dogma that once something becomes a publicly traded, regulated market, it magically becomes perfectly efficient, so that "only Warren Buffett" can ever beat it.
Your points are good ones. Most who try to beat the market do fail. But a lot do beat it as well. In fact, it's much easier as an individual investor (who has no institutional imperative or bosses or clients to deal with) than as a mutual fund or even a hedge fund. Not that it's easy. You need financial education, and a lot of hard work. And some actual skill.
But it's not all but impossible. That's a convenient and helpful lie to tell to most people, but I believe in telling the truth rather than lies.
The efficient market is a myth, that's why Warren Buffett has had the performance he's had.
When you listen to academics, they're always trying to brush Warren Buffett aside as being a fluke. While the success he's had might be, his methods are not. They've been around on paper for decades. They're just not "popular." The past 20 or so years has seen the definition of investing merge with speculating. Spend a little time looking at the rise of discount brokerages and the internet and how it changed retail "investors"
That person seems to have a flawed understanding of the argument for index fund. He keeps going on about "sophisticated investors" and how they can do better, but index funds are "good enough" for unsophisticated ones. Except the fact is that throughout history, millions of sophisticated investors have constantly done worse that the index. Over and over and over again. Stock pickers, no matter how sophisticated, always loose to the index eventually.
They don't all lose eventually. You do know that statistically those doing well aren't going to be talking about it? That those doing bad are the ones that will be talking about it? Most sophisticated investors aren't sharing their ideas or performance with the public.
I think that the main reason so many hedge/mutual funds lose to the index is mostly due to client considerations: reducing volatility, keeping cash on hand, having to own the "hot" names, people leaving after a crash and whatnot.
I'm sure many portfolio managers would beat the market without these considerations. I know I'll give it a shot, at least.
If you watch how the different funds act, you'll start to notice they've gotten heard mentality. They'll boost number of shares held of performing companies and dump ones that have declined (with no consideration for whats overvalued or undervalued) or buy what the ones doing well are buying (again, with no concern for valuations). They're focused on the short term results, largely to appease the emotionally fickle actions of their clients. Those beating the market regularly aren't concerned with what the other fund managers are doing or bogging down their performance focusing on appeasing clients emotions.
If I ran a hedge fund, clients would only be able to withdraw money once a year.
Believing indices beat the majority of people shows a fundamental misunderstanding of how the stock market works. The price of the S&P is the sum of what investors are willing to pay for each of 500 companies added together according to market cap. By virtue of this "voting" with money, there is a buyer and seller on every trade. One person wins and one loses. At the end of the day there is approximately a normal distribution of winners and losers. Half of the investors beat the market, half lose to it.
The belief that on every trade there is a winner and a loser is another myth. The market isn't a zero sum game, gambling at the casino is.
Yes, obviously; in any one year half the people beat the index and half loose to it (before fees). But the people who win/loose changes from year to year. Therefore over a decade 90% loose to the index, which is always the average.
You can throw out all kinds of reasons why indexing is a terrible idea and anyone could do better simply by checking P/E or something and buying stocks, but historical facts show that indexing has won over any long term. Always.
Yes one can do better, but people don't . That's a fact. It has nothing to do with financial literacy or lack thereof.
You're claiming people never do better over the long run likes it's fact, which it's not.
Indexing is about getting the average. Buying the S&P 500 includes owning a lot of mediocre companies. If you were to ask me for a list of stocks I would be willing to hold over the next 50 years and never look at it again, the list would maybe have 120 companies on it out of thousands.
One problem, I think, is that even if it is true that a skilled investor can beat the market, the people who might have the knowledge, experience and temperament to do it can make a shit-ton more money buy sticking their own stash in a couple mutual funds and drawing a big salary from an investment house.
The skilled investors are running their own funds and not sharing their secrets. Why would they want to deal with a corporate investing company when they can work in their pajamas in their own office away from all the hustle and bustle?
It's quite remarkable to me that some posters in this thread think they know more about investing than Joshua Kennon, especially the posters dismissing him out of hand. It is a bit like another thread I saw where some people were suggesting that Buffett lacked skill.
If you can't understand it, act like you know it all and bash anything saying otherwise. The one who yells louder often wins because you can't get through a thick skull no matter how many times you try.
Let's talk about the experts. How about David Swensen, who runs the Yale Endowment? He's had a pretty good run. When asked to write a book for individual investors, he declined, saying that individual investors should buy low cost index funds. How about Warren Buffett? He has stipulated that, after he dies, his wife's money should be 80% in an equity index fund, preferably Vanguard's. I'm not going to convince anybody here, because seriously, this stuff is like religion, but I have worked with Fed governors, derivatives traders, and more finance and economics professors than I can count. Where is their personal money? In index funds at Vanguard.
That's not surprising. I felt my economics and finance professors only taught theory with anything to do with investing, but woefully lacked anything to do with the real world. Others can take away a lot of headache just buying funds. Certain jobs restrict what you can own.
IE: I can't buy into IPOs.
On the one hand, I believe that the efficient market hypothesis is wrong (though it still offers important insights into the market). On the other hand, I'm aware of the behavioral economics literature, the Dunning-Kruger effect, etc.
Putting the two together, it should be possible for someone who is actually a "sophisticated investor" to beat the market. The problem is that a lot of people who think they are "sophisticated investors," aren't. The other problem is that even if a person has the technical ability to beat the market, they may not have the emotional/psychological ability to do it.
I've only had any kind of net worth for a handful of months, and I don't yet trust either my technical or psychological skills to direct my own investments. Once I've watched the markets rise and fall while I now have "skin in the game," and after reading A LOT more to build the technical side, I may try to pick stocks for myself. Or, more likely, I'll try to invest in some real estate. There seems to be a disconnect between the MMM received wisdom of maximum diversification via indexing, and putting many of your eggs in one basket via investment properties.
^^ He gets it.
Buffett's public advice is also very different from his private advice and what he does. He also just gives so much advice that a lot of it is contradictory. He always talks about buying companies with moats and competitive advantages, but he does do cigar-butt net-net investing whenever he has the opportunity, even quite recently (see PetroChina, Daehan Flour Mills, etc.).
He says individual investors should index, but he also talks about how someone can do what he did in the '50s (invest in obscure securities and make high rates of return) now, too, many of the same factors exist.
The point is that disciplined index investing is in fact the optimal strategy for the vast majority of people. But that doesn't mean it's literally the only strategy that works for anyone. MMM is about DIY. If someone has the aptitude and interest in becoming educated in finance and accounting, and the emotional discipline to invest in individual securities, and the willingness to spend a lot of time on it, they may in fact be able to beat the market (or otherwise achieve their individual goals that may not have to do with beating the market as such, which was the point of Joshua's article).
It's like saying no one should make furniture because everyone can buy cheap furniture at IKEA. If you have the aptitude and ability to make furniture, it can still make sense for you because you can make better furniture and you have fun doing it. If you can get good results and enjoy the process, you shouldn't be ostracized as only a lucky gambler because you aren't only investing in index funds.
^^ This one too.
I bought from IKEA (indexed) till I learned to make my own furniture (individual stocks) and found the quality much higher.
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Buffett's public advice is also very different from his private advice and what he does. He also just gives so much advice that a lot of it is contradictory.
He says individual investors should index, but he also talks about how someone can do what he did in the '50s (invest in obscure securities and make high rates of return) now, too, many of the same factors exist.
As I said in a previous post, I do the same as well. I invest aggressively and concentrated in my own portfolios, but recommend indexing to anyone who asks. The reason anyone who does this would never recommend out this strategy to another (or even have friends/family follow their exact strategy) is for two reasons.
1.) Everyone's situation is different. I know my exact situation. I know what would happen if my portfolio was chopped in half tomorrow. No matter what someone else tells me, I cannot know for sure.
2.) Wipe out risk. Wipe out risk is what you absolutely have to avoid. If less sophisticated investors (whether that be due to knowledge or emotional reasons) were to attempt an aggressive strategy they could put themselves at risk for a complete wipe out. With indexing, as long as you don't touch your money, you will do well over the long term. Emotions can more easily come into play when you're picking individual stocks. Greed can come in and cause you to put 80% of your net worth in a "can't miss" stock.
Recently, I've had people ask me, "Now's a really good time to invest in the market right?" In reality, the "really good time" was in 2009. Now? I don't know. I know prices have gone up for the last five years and averaged somewhere around a 17% return. I know the historical market return is about 10%. Using past history as a judge, the long term average *should* revert closer back to 10%, meaning we should expect less than a 10% return, and probably about a 4% return over the next 5 years.
But it's possible we're about to repeat 1998 and 1999 and see the market double over the next two years. Who knows? So long winded answer, but that's why I think it's best for 99% of people to invest in indexes (and why people who don't still recommend to others that they do).
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So it's so very easy to pick companies out of the S&P that will outperform? Several here have claimed they can. (and apparently many individual investors beat the market easily but they don't tell any one? Suuuure)
To the people who lament indexing because you buy "crap" companies. Please write your list of good companies in the S&P that you'd want to own. Then we can look back at it in 5 and 10 years.
Or go back to 1998 and forget everything you know and tell me which companies will be successful now. Or pre-internet which will? Or pre iPhone? Can you do it?
The IKEA analogy is bull. It assumes you have skills to make better furniture, which you don't. Maybe more like saying why pay to fly in an airplane when you can make your own out of aluminum foil and styrofoam (believing you have the skills and resources to do something that it's extremely unlike you actually can)
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http://mreverydaydollar.com/3-reasons-not-to-invest-in-index-funds/
Nice short piece --
I agree with the writer of the above piece that diversification over time is more important than diversification over sectors.
I agree for many here that for the person who wants to put no time into investing (that seems crazy to me as your portfolio is you job post FIRE?), or is completely ignorant on what company ownership is, that index funds serve a purpose.
I also agree with the original piece that using tax loss harvesting can be a nice strategy and that can be accomplished by using either funds or individual stocks.
Is there anyone reading this today that doesn't believe that buying oil and gas sector stocks or index funds is a good thing now?
So even if someone wants to stick with index funds, my suggestion would be to divide them by sectors vs doing a straight S and P 500. That way when a sector is under performing one can easily sell the over performing (relative) sector and buy more of the sector on sale. This doesn't happen too often.
Here is one super deal that someone who takes time to follow the market should have noticed.
http://www.bing.com/search?q=bank+of+america+stock+price+history&form=HPDMHP&pc=HPDTDF&mkt=en-us&refig=606a4b80cf424af8a523be8139f77345&ghc=1&qs=AS&sk=LS1AS1&pq=bank+of+america+stoc&sc=8-20&sp=3&cvid=606a4b80cf424af8a523be8139f77345
In 2011 Buffet was buying the crap out of Bank of America around $6. It was obvious that BOA is a good company having a tough time. Buffet saw that and told everyone. Today (3 years hence) it is selling at 18ish with a PE of something like 45. I'll bet Buffet isn't transmitting his sell orders?
The fact is that for someone with even a basic knowledge of buy low sell high that BOA was a no brainer. One could have easily dumped their entire S and P index into it and tripled their portfolio. They then could repark their money in the S and P index and wait patiently for 2 - 8 years until another super deal appears.
By the way, the oil and gas sector probably is either a very good deal today or will be a buy very soon. It would be the type of play that one could feel comfortable dumping all their money into a oil index fund. Pretty much guaranteed to significantly out perform the general S and P 500 over the next 3 years.
So, IMHO the S and P 500 index funds are great parking places for funds until a real bargain comes along. Treat them as you would cash savings accounts. The cash is setting there waiting for a nice investment to buy.
It saddens me that MMM readers (who are taking the time to air dry laundry for God sake) won't take the time to become sophisticated investors.
Of course I could be completely wrong and the past is not indicative of the future.
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I think you're correct that it takes at least 10 years to figure out who is actually a good investor versus who is just lucky (and probably even longer than that). Due to my occupation, I cannot provide individual stock names. I would be all for that game though, as yes, I am confident the stocks I own will significantly outperform the market over the next 10 years. Over the next two? I have no idea.
There's the Benjamin Graham quote: Over the short term, the market is a voting contest. Over the longer term, it is a weighing machine. I believe in that. It'll take 10 years to figure out (or more).
I can say my weighted average return over the last three years is about 40%. Even I know I got lucky with some of the picks. By lucky, I mean I was extremely confident the companies would go up over the long term. The lucky part was how quickly and how rapidly the companies went up. All of the companies I own that had the best performance, went down by 10% or more after I purchased them. That is why I also know the short term is a bad judge. Because I was confident in my research, anytime the companies went down, I did everything I could to find more money to buy additional shares.
I also know that as I get older, and the sums of money I'm dealing with become larger, the risk will increase. I'll have less time to make up for losses, and the losses will be bigger in a nominal sense. I do not expect to have 40% returns until the day I die. But I do think I can consistently beat the market over rolling five year periods. There's legions of data pointing towards simple ways to do this (value investing, momentum investing are probably the most well known).
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Value investing? Who'd a thunk that buying good companies for a reasonable price would beat buying 500 companies regardless of price or how good they are. Crazy Man! That's just crazy. lol
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I agree for many here that for the person who wants to put no time into investing (that seems crazy to me as your portfolio is you job post FIRE?)
No...my job post FIRE will be to do whatever I want...and managing a stock portfolio is not what I want to be doing. If it was, I'd have gone to Wall Street for my career.
I'm smart enough to know my strengths and limitations...picking individual stocks is not a strength and on top of that I believe that indexing is going to be good enough to keep me set in retirement. Good enough is fine by me, I don't feel a burning need to beat the market.
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So it's so very easy to pick companies out of the S&P that will outperform? Several here have claimed they can. (and apparently many individual investors beat the market easily but they don't tell any one? Suuuure)
If you share your methods, others start following. When others start following, the profitability of your methods decline.
It's intelligent not to share any more than you have to share. There were many deals Buffett told nobody about until after the money had been made.
To the people who lament indexing because you buy "crap" companies. Please write your list of good companies in the S&P that you'd want to own. Then we can look back at it in 5 and 10 years.
Or go back to 1998 and forget everything you know and tell me which companies will be successful now. Or pre-internet which will? Or pre iPhone? Can you do it?
Most of those companies have been around for 50+ years. They're not popular, they're not hot, they're not going to make huge gains over the short term.
Over the long term though, they'll beat indexes and any short term speculating.
The IKEA analogy is bull. It assumes you have skills to make better furniture, which you don't. Maybe more like saying why pay to fly in an airplane when you can make your own out of aluminum foil and styrofoam (believing you have the skills and resources to do something that it's extremely unlike you actually can)
Anyone can have the skill to make better furniture. It just takes time and practice. Most can't, why the IKEA furniture is better. Not everybody can pick individual stocks, it takes patience and learning.
Value investing? Who'd a thunk that buying good companies for a reasonable price would beat buying 500 companies regardless of price or how good they are. Crazy Man! That's just crazy. lol
People look for discounts on the shelves everyday knowing they can get it when it's discounted or buy it later when it's full price again. They just can't seem to connect the dots.
No...my job post FIRE will be to do whatever I want...and managing a stock portfolio is not what I want to be doing. If it was, I'd have gone to Wall Street for my career.
I'm smart enough to know my strengths and limitations...picking individual stocks is not a strength and on top of that I believe that indexing is going to be good enough to keep me set in retirement. Good enough is fine by me, I don't feel a burning need to beat the market.
A lot of your long term successful stock pickers stay far, far away from Wallstreet.
Wallstreet changes people... often for the worst.
Picking individual stocks is about a clear head and patience, you don't have that working on Wallstreet.
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Value investing? Who'd a thunk that buying good companies for a reasonable price would beat buying 500 companies regardless of price or how good they are. Crazy Man! That's just crazy. lol
You're so sophisticated Bob! That Ivy League MBA must really be paying off. Your hindsight on BoA was also outstanding. Great job on telling us how other people bought it.
All you have to do is not pick the bad companies. It's so easy! Which explains why most people beat indexes. Oh, wait....
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Value investing? Who'd a thunk that buying good companies for a reasonable price would beat buying 500 companies regardless of price or how good they are. Crazy Man! That's just crazy. lol
You're so sophisticated Bob! That Ivy League MBA must really be paying off. Your hindsight on BoA was also outstanding. Great job on telling us how other people bought it.
All you have to do is not pick the bad companies. It's so easy! Which explains why most people beat indexes. Oh, wait....
Most people don't value invest.
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I agree for many here that for the person who wants to put no time into investing (that seems crazy to me as your portfolio is you job post FIRE?)
No...my job post FIRE will be to do whatever I want...and managing a stock portfolio is not what I want to be doing. If it was, I'd have gone to Wall Street for my career.
I'm smart enough to know my strengths and limitations...picking individual stocks is not a strength and on top of that I believe that indexing is going to be good enough to keep me set in retirement. Good enough is fine by me, I don't feel a burning need to beat the market.
Oh, I totally agree with you. I believe the original article referred to sophisticated investors. Much of the hyperbole here has been that sophisticated investors cannot possibly beat the market over the long term. That is just plan wrong. (by the way, hedge fund managers are not "sophisticated" investors they are fee generating sales organizations)
For the unsophisticated investor please do feel free to index but I would suggest you up it just a notch and use the tax loss harvesting strategy as well as set your indexs up so that there are 5-7 funds that you can reconfigure as opportunities become evident. Simply by doing those two things you will likely add 1 -2% to your returns.
1-2% is huge with regards to the SWR calculations often sited here. For many people it can make the difference between working an additional 15 years or retiring today. So you could read 5 or 8 books on value investing/tax loss harvesting/sector rotation in about 40 hours or you could work several thousand additional hours at a job you may not like.
It is frustrating because MMM often promotes DIY and is willing to become highly educated and spend lots of time on certain tasks. He calls this building the muscles.
Probably 80% of the stuff I do post FI will be things I don't "want" to do. If I had wanted to cook I would have gone to chef school. If I wanted to take out the trash I would have been a trash man. If I had wanted to drive a car I would have been a chauffer. Life is made up of the mundane taking care of business activities primarily.
I plan to spend the 30 minutes per week to take care of my portfolio and beat the S and P substantially. I also plan to own rental property that substantially beats the S and P by an average of 5% per year. Of course that will take some effort and forethought on my part.
But everyone else is welcome to do as they please.
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Since I am positive that any individual stock I buy will immediately tank, I am not a Sophisticated Investor ;-). I use the services of an investment professional who stresses low cost, index funds, ETF's, diversity and rebalancing. It works for me. The fees are more than made up for by the results. Yes, results. I am positive that this strategy puts me well ahead of what I could achieve on my own. I'm sure there are others who will disagree with this approach, but it got me to FIRE, so I'm not complaining. I'm not sophisticated, but you could call me rich.
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I feel like we have some True Scotsman thing going on here now:
"Any sophisticated investor can easily beat the market!"
"That guy didn't beat the market so he's not a sophisticated investor"
And this sector rotation to take advantage of "opportunists that become evident"? If they're so evident wouldn't everyone act on them immediately? Usually these are only evident after the fact, like your BAC example. This kind of jumping around is exactly what index investors shouldn't do! It rarely ever works out
(yesyes, I know you're great at it and will make millions, but I guess you're special)
The reason most here don't advocate DYI investments is because it's proven not to work. Not opinion, fact. Putting in 20 hours a week messing with my portfolio will not get me more money, it will actually get me less! So why would I do this?
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So it's so very easy to pick companies out of the S&P that will outperform? Several here have claimed they can. (and apparently many individual investors beat the market easily but they don't tell any one? Suuuure)
To the people who lament indexing because you buy "crap" companies. Please write your list of good companies in the S&P that you'd want to own. Then we can look back at it in 5 and 10 years.
Or go back to 1998 and forget everything you know and tell me which companies will be successful now. Or pre-internet which will? Or pre iPhone? Can you do it?
The IKEA analogy is bull. It assumes you have skills to make better furniture, which you don't. Maybe more like saying why pay to fly in an airplane when you can make your own out of aluminum foil and styrofoam (believing you have the skills and resources to do something that it's extremely unlike you actually can)
Instead of saying "the market" over and over. Ask yourself: What is the market you are referring to?
The S&P 500? What is it?
The index includes 500 of the largest (not necessarily the 500 largest) companies whose stocks trade on either the NYSE or NASDAQ. The components of the S&P 500 are selected by committee so they are representative of the industries in the United States economy. The S&P 500 committee operates within specific criteria. To qualify for the index, a company must have:
- a market cap of $5.3 billion
- its headquarters in the U.S.
- the value of its market capitalization trade annually
- at least a quarter-million of its shares trade in each of the previous six months
- most of its shares in the public’s hands
- at least half a year since its initial public offering
- Four straight quarters of positive as-reported earnings.
Once selected the companies are weighted according to market cap * public float.
How does this selection criteria or the way the S&P 500 is weighted make this such a good investment method to follow?
I see:
-the qualitative selection criteria of representing the U.S. market as a whole i.e. (IT = 20%, Healthcare = 14%, Utilities = 3% etc...) Diversity.
-Four straight quarters of positive earnings. Profitable.
-at least half a year since its initial public offering. Avoids the IPO frenzy.
Most of the criteria actually runs contrary to making good investment decisions:
-a market cap of $5.3 billion - It is harder to compound 5+ billion dollars than a smaller sum.
-headquartered in the U.S. - Nestle, Diageo, Munich Re, Honda, Toyota, Airbus, Budweiser are all left out of the index.
-the value of its market capitalization trade annually - This was an element added for indexing funds. You cannot buy millions of shares if their is not sufficient turnover.
-at least a quarter-million of its shares trade in each of the previous six months - Same as above. This is why Berkshire Hathaway was left out of the index before its 50:1 stock spit.
-most of its shares in the public’s hands - Wouldn't you rather partner with management who held significant "skin in the game"? Google the "wealth index" to see what happens when you invest in an index of companies where the founder still works as the ceo and ownes a significant portion of the company. Buffett, John Malone, Nicholas Howley etc...
If you want to index. That's fine, but do so intelligently. What are ways you can index and minimize the negatives of the S&P's selection criteria? My problem with many of the indexes, especially those mirrored by vanguard, is the selection criteria. The criteria centers around liquidity and is necessary so vanguard can invest 100's of billions of dollars, not because it is a good way to weight your portfolio.
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Instead of saying "the market" over and over. Ask yourself: What is the market you are referring to?
The S&P 500? What is it?
...
Doesn't matter. The S&P 500 has shown over decades to correlate to within a few percent of the return of the total US stock market, which makes sense since it is 80% of the cap of the US market. International is another issue, but the world economy is so interconnected now there is strong correlation to the S&P as well. The S&P 500 is simple, can be bought cheaply and give so close to the full market return (the whole US or world) that it doesn't matter.
This is discussed much much better in Bogle's Common Sense, which it sounds like you should read.
That said I have some extended market and international in my 401k, but I'm not 100% sure it's necessary.
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The reason most here don't advocate DYI investments is because it's proven not to work. Not opinion, fact. Putting in 20 hours a week messing with my portfolio will not get me more money, it will actually get me less! So why would I do this?
Correct. It is proven not to work for the majority of individual investors.
Google "momentum investing." There's an endless amount of research showing that if you had stuck with momentum investing, you would have significantly outperformed the market over the last 200 years. This is just as much of a fact as your fact of active investing being proven to not work. And they are both correct. (here's my disclamer: past results do not guarantee future results. But this statement is just as true for your fact as it is my fact.)
How are they both correct? Sticking with my example of momentum investing, it is very,very hard. It is hard because if you follow this strategy, your assets will get whipsawed around. If the markets up 15%, you'll be up 22%. If the markets down 5%? You'll be down 15%. (and yes, clearly those numbers don't work, but you get the idea). People don't have the stomach to handle that and stick with a strategy.
There are plenty of facts (from your same sources) proving that investors again and again will buy in at the worst times in the market, and sell out at the bottom. This is the biggest skill to learn with investing if you're going to outperform. And this is why active management doesn't work. But it's also why momentum investing and value investing do work.
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Instead of saying "the market" over and over. Ask yourself: What is the market you are referring to?
The S&P 500? What is it?
...
Doesn't matter. The S&P 500 has shown over decades to correlate to within a few percent of the return of the total US stock market, which makes sense since it is 80% of the cap of the US market. International is another issue, but the world economy is so interconnected now there is strong correlation to the S&P as well. The S&P 500 is simple, can be bought cheaply and give so close to the full market return (the whole US or world) that it doesn't matter.
This is discussed much much better in Bogle's Common Sense, which it sounds like you should read.
That said I have some extended market and international in my 401k, but I'm not 100% sure it's necessary.
Actually it does matter quite a bit. I'm not saying to start buying individual stocks, but here is a chart that shows the S&P 500 Cap weighted vs equal weighted since 1989.
(http://static.seekingalpha.com/uploads/2008/6/3/spxequalwgt898_2_6.png)
After the dotcom bubble and including the last recession:
(http://thecollegeinvestorcom.c.presscdn.com/wp-content/uploads/2013/07/Equal-Weighted-Index-Fund-Outperformance.png)
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Instead of saying "the market" over and over. Ask yourself: What is the market you are referring to?
The S&P 500? What is it?
...
Doesn't matter. The S&P 500 has shown over decades to correlate to within a few percent of the return of the total US stock market, which makes sense since it is 80% of the cap of the US market. International is another issue, but the world economy is so interconnected now there is strong correlation to the S&P as well. The S&P 500 is simple, can be bought cheaply and give so close to the full market return (the whole US or world) that it doesn't matter.
This is discussed much much better in Bogle's Common Sense, which it sounds like you should read.
That said I have some extended market and international in my 401k, but I'm not 100% sure it's necessary.
Actually it does matter quite a bit. I'm not saying to start buying individual stocks,
So what are you saying then?
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There is the combination of true statements here that seem to not exclude each other:
A) If skillful, then an individual investor can outperform the market
B) The majority of individual investors lack one or more critical skills to achieve a)
C) The amount of time spent with the amount of capital people have will render a) a bad investment of time for many individual investors
D) The majority of individual investors should index
I genuinely believe A) is not as hard to achieve as many people here think. Basically the only thing you need on top of achieving a success with index investing is good analytical and numerical skills. You may need stronger emotional control skills as well.
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A few percentage points really matter.
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A few percentage points really matter.
That's the argument for indexing as well. If what you thought was skill for the first couple of years of investing during a raging bull market instead turned out to be luck once the raging bull left, well, you'd really like those few percentage points back.
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There is the combination of true statements here that seem to not exclude each other:
A) If skillful, then an individual investor can outperform the market
B) The majority of individual investors lack one or more critical skills to achieve a)
C) The amount of time spent with the amount of capital people have will render a) a bad investment of time for many individual investors
D) The majority of individual investors should index
I genuinely believe A) is not as hard to achieve as many people here think. Basically the only thing you need on top of achieving a success with index investing is good analytical and numerical skills. You may need stronger emotional control skills as well.
Scrooge,
I think the problem here is that you are appealing to logic - and as Josh says in the article, many of the folks on this thread aren't interested in logic - they are essentially index religion fanatics.
While a lot of people would like to think that being a Mustachian makes them an unconventional financial thinker and therefore exceptional - we know that 50% of people are average and 50% of those people are dumber than that.
While I appreciate you, Innerscorecard, and a few others here who attempt to stand up to the sheeple in threads like these I think it is far better to let them have their way. After all, those who become sophisticated investors won't be swayed by the braying of the masses. And those braying are better off with index funds.
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I notice you didn't post any stock picks eudaimonia.
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Actually it does matter quite a bit. I'm not saying to start buying individual stocks,
So what are you saying then?
Here is an example of a low cost index portfolio that is more diversified than the S&P 500 or even VTI.
42.5% modeled after the S&P but sector specific to allow tax loss harvesting:
7.5% - VGT - S&P Technology
6.5% - VFH - S&P Financials
6.0% - VHT - S&P Healthcare
4.5% - VCR - S&P Consumer Discretionary
4.0% - VIS - S&P Industials
6.5% - VDC - S&P Consumer Staples
3.0% - VDE - S&P Energy
1.5% - VAW - S&P Materials
1.5% - VPU - S&P Utilities
1.5% - VOX - S&P Communication
Mid Caps specific - 20%:
3.5% - VO - Mid Cap index
4.0% - VOT - Mid Cap Growth
12.5% - VXF - Mid Caps not in the S&P (some small caps in this one)
Small Cap specific - 20%:
20% - VB - Small Cap index
International - 17.5%:
8.5% - VEU - Ex US International
9.0% - VSS - Ex US International (small cap)
From a portfolio like this you get:
-Tax loss harvesting
-Much more market cap diversity (40% Large Cap, 34% Mid Cap, 26% Small Cap)
-International Diversity (18% international, 82% U.S.)
-Sector weighting very similar to VTI (+1% on Consumer Def, Real Estate, and -1% on Energy and Health C.)
-Holding Type very similar to VTI (ie. Aggressive Growth, value, etc.)
-Long Term EPS Growth at 11.2% with a P/E of 18.5 vs 10% for VTI (PE 18.3) or 9.6% (PE 18) for the S&P 500
-Expense ratio of 0.12% and free transactions with Vanguard
This portfolio is very similar to a VTI + VXUS portfolio with some small cap ETFs added. To eliminate the majority of the problems with indexing, you don't have to be a stock picker. You just have to be an intelligent indexer.
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I notice you didn't post any stock picks eudaimonia.
Right. And I don't intend to. Even if I posted a 30 year track record soundly beating the index you'd say it was luck or I cheated or I was abducted by aliens. Don't believe me? People posted Warren's track record, Tweedy & Brown's track record, Ben Graham's track record, Paul Tudor Jones' track record, George Soroes' track record - but those are all exceptions to the rule.
All hail thy Index fund god for he is almighty and thou shalt not question thy savior and lord or he shall smite thee and chastise thee fiercely and cast thy blaspheming corpse out of the garden of index fund nirvana and thou shalt weep rivers of blood while your retirement funds shrivel up and die forever. Amen.
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I notice you didn't post any stock picks eudaimonia.
Right. And I don't intend to. Even if I posted a 30 year track record soundly beating the index you'd say it was luck or I cheated or I was abducted by aliens. Don't believe me? People posted Warren's track record, Tweedy & Brown's track record, Ben Graham's track record, Paul Tudor Jones' track record, George Soroes' track record - but those are all exceptions to the rule.
All hail thy Index fund god for he is almighty and thou shalt not question thy savior and lord or he shall smite thee and chastise thee fiercely and cast thy blaspheming corpse out of the garden of index fund nirvana and thou shalt weep rivers of blood while your retirement funds shrivel up and die forever. Amen.
Good luck then. I'm glad that you can beat index investing, especially over the long haul. So few people can, that it's rare to come across such a verified investing superstar. Stating it as fact on the internet will surely convince others of the superiority of your unmentioned and unchecked strategy.
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Actually it does matter quite a bit. I'm not saying to start buying individual stocks,
So what are you saying then?
Here is an example of a low cost index portfolio that is more diversified than the S&P 500 or even VTI.
42.5% modeled after the S&P but sector specific to allow tax loss harvesting:
7.5% - VGT - S&P Technology
6.5% - VFH - S&P Financials
6.0% - VHT - S&P Healthcare
4.5% - VCR - S&P Consumer Discretionary
4.0% - VIS - S&P Industials
6.5% - VDC - S&P Consumer Staples
3.0% - VDE - S&P Energy
1.5% - VAW - S&P Materials
1.5% - VPU - S&P Utilities
1.5% - VOX - S&P Communication
Mid Caps specific - 20%:
3.5% - VO - Mid Cap index
4.0% - VOT - Mid Cap Growth
12.5% - VXF - Mid Caps not in the S&P (some small caps in this one)
Small Cap specific - 20%:
20% - VB - Small Cap index
International - 17.5%:
8.5% - VEU - Ex US International
9.0% - VSS - Ex US International (small cap)
From a portfolio like this you get:
-Tax loss harvesting
-Much more market cap diversity (40% Large Cap, 34% Mid Cap, 26% Small Cap)
-International Diversity (18% international, 82% U.S.)
-Sector weighting very similar to VTI (+1% on Consumer Def, Real Estate, and -1% on Energy and Health C.)
-Holding Type very similar to VTI (ie. Aggressive Growth, value, etc.)
-Long Term EPS Growth at 11.2% with a P/E of 18.5 vs 10% for VTI (PE 18.3) or 9.6% (PE 18) for the S&P 500
-Expense ratio of 0.12% and free transactions with Vanguard
This portfolio is very similar to a VTI + VXUS portfolio with some small cap ETFs added. To eliminate the majority of the problems with indexing, you don't have to be a stock picker. You just have to be an intelligent indexer.
Fair enough, so mainly you're saying that sophisticated investors can still buy index funds, which is not really all that different from Scandium's view. All you seem to be doing is just complicating the portfolio for the purposes of tax loss harvesting and weighing sectors arbitrarily.
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A very well informed investor with a great amount of time to read public disclosures and research non-disclosed material (management in particular) who isn't burdened by annual earnings deadlines and so is free to be tax efficient... could certainly beat the S&P index.
The problem is that this person isn't me. I'm smart enough to buy JNJ or AAPL when it's terrifically undervalued, hold for a few years and then sell. I've done it before. But to consistently perform in this way is far above my skill level, and would require much more time than I can or want to devote.
That is the true, unquestionable dominance of indexing: You cannot beat the index (consistently) in earnings per effort.
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Actually it does matter quite a bit. I'm not saying to start buying individual stocks,
So what are you saying then?
Here is an example of a low cost index portfolio that is more diversified than the S&P 500 or even VTI.
42.5% modeled after the S&P but sector specific to allow tax loss harvesting:
7.5% - VGT - S&P Technology
6.5% - VFH - S&P Financials
6.0% - VHT - S&P Healthcare
4.5% - VCR - S&P Consumer Discretionary
4.0% - VIS - S&P Industials
6.5% - VDC - S&P Consumer Staples
3.0% - VDE - S&P Energy
1.5% - VAW - S&P Materials
1.5% - VPU - S&P Utilities
1.5% - VOX - S&P Communication
Mid Caps specific - 20%:
3.5% - VO - Mid Cap index
4.0% - VOT - Mid Cap Growth
12.5% - VXF - Mid Caps not in the S&P (some small caps in this one)
Small Cap specific - 20%:
20% - VB - Small Cap index
International - 17.5%:
8.5% - VEU - Ex US International
9.0% - VSS - Ex US International (small cap)
From a portfolio like this you get:
-Tax loss harvesting
-Much more market cap diversity (40% Large Cap, 34% Mid Cap, 26% Small Cap)
-International Diversity (18% international, 82% U.S.)
-Sector weighting very similar to VTI (+1% on Consumer Def, Real Estate, and -1% on Energy and Health C.)
-Holding Type very similar to VTI (ie. Aggressive Growth, value, etc.)
-Long Term EPS Growth at 11.2% with a P/E of 18.5 vs 10% for VTI (PE 18.3) or 9.6% (PE 18) for the S&P 500
-Expense ratio of 0.12% and free transactions with Vanguard
This portfolio is very similar to a VTI + VXUS portfolio with some small cap ETFs added. To eliminate the majority of the problems with indexing, you don't have to be a stock picker. You just have to be an intelligent indexer.
Fair enough, so mainly you're saying that sophisticated investors can still buy index funds, which is not really all that different from Scandium's view. All you seem to be doing is just complicating the portfolio for the purposes of tax loss harvesting and weighing sectors arbitrarily.
Tax loss harvesting adds about 1% per year to the return of a taxable account.
The above portfolio (An equal weight total market portfolio) adds ~2% to the return of a cap weighed index fund.
That's the difference between 10k turning into 27k in 15 years or 41k. The complication might be worth it...
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Tax loss harvesting adds about 1% per year to the return of a taxable account.
The above portfolio (An equal weight total market portfolio) adds ~2% to the return of a cap weighed index fund.
That's the difference between 10k turning into 27k in 15 years or 41k. The complication might be worth it...
Only if there are the losses to use the tax loss harvesting to get that 1%.
Only if your particular weights result in that 2% additional return.
There is not free lunch. You haven't discovered some magical index combination that will always perform better. It will sometimes and it won't others. It is essentially just a riskier and therefore potentially more profitable AA.
Furthermore the whole point of the thread was about a discussion about sophisticated investors and not buying index funds. I was merely trying to point out that you and Scandium actually share more in common in regards to the bigger picture of this thread.
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I'd like to offer Janus 20 fund as a data point for a "sophisticated investor" who picked 20 largecap growth stocks back in the mid-1990s.
http://portfolios.morningstar.com/fund/holdings?t=JAVLX
Returns have been comparable with S&P200.
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That is the true, unquestionable dominance of indexing: You cannot beat the index (consistently) in earnings per effort.
I wholeheartedly agree with this and in fact no one has been arguing against this at all. I just take issue with the idea that literally no individual investors should ever do anything other than index.
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I'd like to offer Janus 20 fund as a data point for a "sophisticated investor" who picked 20 largecap growth stocks back in the mid-1990s.
http://portfolios.morningstar.com/fund/holdings?t=JAVLX
Returns have been comparable with S&P200.
I agree and I think most do that active mutual funds are not sustainably better than indexing. The problem with mutual funds is structural and thus pervasive. You will have good managers like Bruce Berkowitz who do all the right things - but their investors flock in exactly at the wrong moments and abandon them exactly when they should be buying in. Just look at what's happened multiple time with the Fairholme Fund.
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My point was simply that I was insulted by the ludicrous notion that index funds are "good enough" for simple, unsophisticated investors and that anyone can be a sophisticated investor and easily beat the market by reading a few financial statements.
This may (may!) be true for something like 0.1% off people, but many here imply anyone can do it easily. And decades of date refute this.
Index funds are not some second rate option for those too lazy to do some simple work; it's the best way for 99% of people to invest. You may think you have some simple way to outsmart it, but you'll join the mountains of date that prove it rarely works
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My point was simply that I was insulted by the ludicrous notion that index funds are "good enough" for simple, unsophisticated investors and that anyone can be a sophisticated investor and easily beat the market by reading a few financial statements.
This may (may!) be true for something like 0.1% off people, but many here imply anyone can do it easily. And decades of date refute this.
Index funds are not some second rate option for those too lazy to do some simple work; it's the best way for 99% of people to invest. You may think you have some simple way to outsmart it, but you'll join the mountains of date that prove it rarely works
I don't disagree with your restatement here.
But Joshua's actual article didn't say that all sophisticated investors shouldn't index. Even the title says it - there are "some" reasons why "some" sophisticated investors should not index. Using basic logic, that doesn't at all say even that sophisticated investors shouldn't index!
It was just making the point that there are in fact valid reasons for some people not to index. But that actually starts from the premise (read the article, you'll see it) that low-cost indexing should in fact be the default.
Scandium, if you look at my responses in these threads: http://forum.mrmoneymustache.com/investor-alley/buy-apple-now/ http://forum.mrmoneymustache.com/investor-alley/blue-chip-stock-investing-curiosityquestion-28713/, you'll see that I really agree with your tireless advocacy of indexing for most people. The efficient market hypothesis should be the starting point and starting assumption for everyone learning about investing. People should assume that prices are generally efficient and they can't pick stocks unless there's a good reason (backed by actual research and analysis) otherwise.
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Actually it does matter quite a bit. I'm not saying to start buying individual stocks,
So what are you saying then?
Here is an example of a low cost index portfolio that is more diversified than the S&P 500 or even VTI.
42.5% modeled after the S&P but sector specific to allow tax loss harvesting:
7.5% - VGT - S&P Technology
6.5% - VFH - S&P Financials
6.0% - VHT - S&P Healthcare
4.5% - VCR - S&P Consumer Discretionary
4.0% - VIS - S&P Industials
6.5% - VDC - S&P Consumer Staples
3.0% - VDE - S&P Energy
1.5% - VAW - S&P Materials
1.5% - VPU - S&P Utilities
1.5% - VOX - S&P Communication
Mid Caps specific - 20%:
3.5% - VO - Mid Cap index
4.0% - VOT - Mid Cap Growth
12.5% - VXF - Mid Caps not in the S&P (some small caps in this one)
Small Cap specific - 20%:
20% - VB - Small Cap index
International - 17.5%:
8.5% - VEU - Ex US International
9.0% - VSS - Ex US International (small cap)
From a portfolio like this you get:
-Tax loss harvesting
-Much more market cap diversity (40% Large Cap, 34% Mid Cap, 26% Small Cap)
-International Diversity (18% international, 82% U.S.)
-Sector weighting very similar to VTI (+1% on Consumer Def, Real Estate, and -1% on Energy and Health C.)
-Holding Type very similar to VTI (ie. Aggressive Growth, value, etc.)
-Long Term EPS Growth at 11.2% with a P/E of 18.5 vs 10% for VTI (PE 18.3) or 9.6% (PE 18) for the S&P 500
-Expense ratio of 0.12% and free transactions with Vanguard
This portfolio is very similar to a VTI + VXUS portfolio with some small cap ETFs added. To eliminate the majority of the problems with indexing, you don't have to be a stock picker. You just have to be an intelligent indexer.
Fair enough, so mainly you're saying that sophisticated investors can still buy index funds, which is not really all that different from Scandium's view. All you seem to be doing is just complicating the portfolio for the purposes of tax loss harvesting and weighing sectors arbitrarily.
Tax loss harvesting adds about 1% per year to the return of a taxable account.
The above portfolio (An equal weight total market portfolio) adds ~2% to the return of a cap weighed index fund.
That's the difference between 10k turning into 27k in 15 years or 41k. The complication might be worth it...
. Well done index! Probably a lower Beta as well. Add a pinch of rotation and you're probably at 3%. 3% is fucking huge when you're talking SWR. Huge like the average reader of this forum would need half the portfolio they thought and be able to FIRE years and years sooner. All that by simply taking 30 minutes to read and understand what you wrote. Amazing shit! Well done. Glad I stuck with this thread.
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Here is another Vanguard ETF portfolio I actually use in one of our IRA accounts. I am not concerned with tax loss harvesting since it is not a taxable account.
This is an aggressive allocation with an 80/20 allocation to stocks and bonds, 70/30 split between US and Foreign companies, 43/32/25 Large/Mid/Small cap, and ~9% allocation to each sector (utilities and real estate included). There are not transaction fees through Vanguard and the expense ratio is 0.13%. The PE ratio of the portfolio is 17.3, the expected EPS growth is 10.6%, and dividends of 2.2%. It returned ~8.2% this year.
The bond allocation is tilted to short term because I am worried about rising interest rates.
US Equities:
28% VXF – Vanguard Extended Market (Everything but the S&P 500)
8% VTI – Vanguard Total Stock Market
5% VPU – Vanguard Utilities
5% VOX – Vanguard Communications
5% VAW – Vanguard Raw Materials
3% VDE – Vanguard Energy
3% VDC – Consumer Staples
International Equities:
8% VEU – Vanguard Ex-US Total Market
7% VSS – Vanguard Ex-US Small Cap
6% VWO – Vanguard Emerging Market
2% VNQI – Vanguard International Real Estate
Bonds:
14% VCSH – Vanguard Short Term Corporate Bond
3% BLV – Vanguard Long Term Bond
3% VWOB – Vanguard Emerging Market Bond
I back tested the portfolio (by asset class) from 1982 to 2014 comparing it to a 100% VTI portfolio, and a 3 fund portfolio (56% VTI, 24% International Equity, 20% Total Bond).
The results were:
Smart Index – 11.64% CAGR – 10K grows to 244k; Sharpe Ratio - 0.60
100% VTI – 11.07% CAGR – 10K grows to 210K; Sharpe Ratio – 0.49
3 Fund Portfolio – 10.69% CAGR - 10K grows to 190K; Sharpe Ratio – 0.54
The take away from this is by indexing intelligently (let’s say being sophisticated indexers!), portfolio returns can be improved by ~1% per year while taking on less risk. I don’t think being lazy should be an excuse for the people on this forum. Look at it this way, this approach takes the time spent on your portfolio from 3 hours to 12 hours per year. That is an extra 135 hours over 15 years. If you started today with 50k and added 1% to your returns, this is would net you about 26k in additional earnings over 15 years; ~$190/hr.
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Here is another Vanguard ETF portfolio I actually use in one of our IRA accounts. I am not concerned with tax loss harvesting since it is not a taxable account.
This is an aggressive allocation with an 80/20 allocation to stocks and bonds, 70/30 split between US and Foreign companies, 43/32/25 Large/Mid/Small cap, and ~9% allocation to each sector (utilities and real estate included). There are not transaction fees through Vanguard and the expense ratio is 0.13%. The PE ratio of the portfolio is 17.3, the expected EPS growth is 10.6%, and dividends of 2.2%. It returned ~8.2% this year.
The bond allocation is tilted to short term because I am worried about rising interest rates.
US Equities:
28% VXF – Vanguard Extended Market (Everything but the S&P 500)
8% VTI – Vanguard Total Stock Market
5% VPU – Vanguard Utilities
5% VOX – Vanguard Communications
5% VAW – Vanguard Raw Materials
3% VDE – Vanguard Energy
3% VDC – Consumer Staples
International Equities:
8% VEU – Vanguard Ex-US Total Market
7% VSS – Vanguard Ex-US Small Cap
6% VWO – Vanguard Emerging Market
2% VNQI – Vanguard International Real Estate
Bonds:
14% VCSH – Vanguard Short Term Corporate Bond
3% BLV – Vanguard Long Term Bond
3% VWOB – Vanguard Emerging Market Bond
I back tested the portfolio (by asset class) from 1982 to 2014 comparing it to a 100% VTI portfolio, and a 3 fund portfolio (56% VTI, 24% International Equity, 20% Total Bond).
The results were:
Smart Index – 11.64% CAGR – 10K grows to 244k; Sharpe Ratio - 0.60
100% VTI – 11.07% CAGR – 10K grows to 210K; Sharpe Ratio – 0.49
3 Fund Portfolio – 10.69% CAGR - 10K grows to 190K; Sharpe Ratio – 0.54
The take away from this is by indexing intelligently (let’s say being sophisticated indexers!), portfolio returns can be improved by ~1% per year while taking on less risk. I don’t think being lazy should be an excuse for the people on this forum. Look at it this way, this approach takes the time spent on your portfolio from 3 hours to 12 hours per year. That is an extra 135 hours over 15 years. If you started today with 50k and added 1% to your returns, this is would net you about 26k in additional earnings over 15 years; ~$190/hr.
It's great work but I don't know if one 32 year backtest is going to convince me. It'll be interesting to see how things like that perform over time.
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It's great work but I don't know if one 32 year backtest is going to convince me. It'll be interesting to see how things like that perform over time.
Here is a good article on sector weighting:
https://blog.personalcapital.com/investing/is-smart-indexing-a-good-investment-strategy/
Sector weighting helps smooth out your portfolio returns by removing sector specific the booms and busts. Examples: the tech craze and crash in 2000 and the 2008 financial collapse. The portfolio is also tilted toward the small caps to enhance return (similar to VTI).
Here is a equal weighted portfolio vs. the S&P. Note the excess size of the tech and finance companies and the small size of communications, utilities, and materials.
(https://blog.personalcapital.com/wp-content/uploads/2014/04/smart-indexing-sector.png)
The weighting works because it negates the effect of cap weighting. Example: Index funds buy more and more Apple as it becomes larger. This is great if something keeps growing larger, but amplifies "hot stocks" that grow beyond their valuation (an extreme example is in 1999 when the dotcom companies were selling for 200-300x their earnings).
Here us another back tested equal weight portfolio:
(https://blog.personalcapital.com/wp-content/uploads/2014/04/smart-indexing-proof.png)
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Tax loss harvesting adds about 1% per year to the return of a taxable account.
The above portfolio (An equal weight total market portfolio) adds ~2% to the return of a cap weighed index fund.
That's the difference between 10k turning into 27k in 15 years or 41k. The complication might be worth it...
Only if there are the losses to use the tax loss harvesting to get that 1%.
Only if your particular weights result in that 2% additional return.
There is not free lunch. You haven't discovered some magical index combination that will always perform better. It will sometimes and it won't others. It is essentially just a riskier and therefore potentially more profitable AA.
Furthermore the whole point of the thread was about a discussion about sophisticated investors and not buying index funds. I was merely trying to point out that you and Scandium actually share more in common in regards to the bigger picture of this thread.
"Only if there are the losses to use the tax loss harvesting to get that 1%."
Correct. History shows that after the first year or two, any individual deposit (tax lot) loses all ability to tax loss harvest.
"Only if your particular weights result in that 2% additional return."
Correct again. For any new investors reading the thread, this is a common trap many investors fall into. Be sure to avoid it. History has shown that choosing a portfolio based on past returns is not likely to end well. Keep it simple, stay the course, and the odds are overwhelmingly in your favor that you will end up well ahead of these portfolios over the long term.
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"Only if there are the losses to use the tax loss harvesting to get that 1%."
Correct. History shows that after the first year or two, any individual deposit (tax lot) loses all ability to tax loss harvest.
"Only if your particular weights result in that 2% additional return."
Correct again. For any new investors reading the thread, this is a common trap many investors fall into. Be sure to avoid it. History has shown that choosing a portfolio based on past returns is not likely to end well. Keep it simple, stay the course, and the odds are overwhelmingly in your favor that you will end up well ahead of these portfolios over the long term.
Do you not understand how a portfolio like this works or are you just telling people to keep it simple because 14 ETFs are overwhelming?
There is no trap. There is no choosing random securities. All this portfolio is attempting to do is to correct the short comings of traditional index portfolios, ie the 3 fund portfolio. I'll go ahead and quote this because it is clear you did not read the thread:
Most S&P selection criteria actually runs contrary to making good investment decisions:
-a market cap of $5.3 billion - It is harder to compound 5+ billion dollars than a smaller sum.
-headquartered in the U.S. - Nestle, Diageo, Munich Re, Honda, Toyota, Airbus, Budweiser are all left out of the index.
-the value of its market capitalization trade annually - This was an element added for indexing funds. You cannot buy millions of shares if their is not sufficient turnover.
-at least a quarter-million of its shares trade in each of the previous six months - Same as above. This is why Berkshire Hathaway was left out of the index before its 50:1 stock spit.
-most of its shares in the public’s hands - Wouldn't you rather partner with management who held significant "skin in the game"? Google the "wealth index" to see what happens when you invest in an index of companies where the founder still works as the ceo and ownes a significant portion of the company. Buffett, John Malone, Nicholas Howley etc...
If you want to index. That's fine, but do so intelligently. What are ways you can index and minimize the negatives of the S&P's selection criteria? My problem with many of the indexes, especially those mirrored by vanguard, is the selection criteria. The criteria centers around liquidity and is necessary so vanguard can invest 100's of billions of dollars, not because it is a good way to weight your portfolio.
These points are not opinions. You can choose to ignore them, but you are giving up portfolio diversity and returns.
Why do you use VTI as opposed to the S&P 500 EFT? VTI is more diversified and outperforms the S&P 500 with similar risk. Why do you add bonds and international to your 3 fund portfolio? To diversify and lessen risk. All this "smart" portfolio is doing is getting rid of cap*liquidity weighting which exists to allow for the creation of larger indexes, not to enhance returns or represent the market as a whole.
Think of it this way:
You hold 3 funds as opposed to only VTI to increase the Sharpe ratio (measure of return vs risk) .05 from 0.49 to 0.54. This portfolio increases the Sharpe ratio .06 from 0.54 to 0.6. It might not seem like much, but this portfolio is as superior to your 3 fund portfolio as the three fund is to a 100% VTI portfolio.
I understand if you are just directing new investors to keep them from being overwhelmed. If you are arguing because you think a 3 fund porfolio is superior, you are ignoring facts. A lazy 3 fund portfolio will do fine in the long run, but has unperformed this portfolio in 5/6 5 year periods since 1982 (the only period it did not outperform what the tech crazy which ended up being a good thing). If you are too lazy to run a superior portfolio then state that as your reason. An extra % is worth it too me.
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"Only if there are the losses to use the tax loss harvesting to get that 1%."
Correct. History shows that after the first year or two, any individual deposit (tax lot) loses all ability to tax loss harvest.
"Only if your particular weights result in that 2% additional return."
Correct again. For any new investors reading the thread, this is a common trap many investors fall into. Be sure to avoid it. History has shown that choosing a portfolio based on past returns is not likely to end well. Keep it simple, stay the course, and the odds are overwhelmingly in your favor that you will end up well ahead of these portfolios over the long term.
Do you not understand how a portfolio like this works or are you just telling people to keep it simple because 14 ETFs are overwhelming?
There is no trap. There is no choosing random securities. All this portfolio is attempting to do is to correct the short comings of traditional index portfolios, ie the 3 fund portfolio. I'll go ahead and quote this because it is clear you did not read the thread:
Most S&P selection criteria actually runs contrary to making good investment decisions:
-a market cap of $5.3 billion - It is harder to compound 5+ billion dollars than a smaller sum.
-headquartered in the U.S. - Nestle, Diageo, Munich Re, Honda, Toyota, Airbus, Budweiser are all left out of the index.
-the value of its market capitalization trade annually - This was an element added for indexing funds. You cannot buy millions of shares if their is not sufficient turnover.
-at least a quarter-million of its shares trade in each of the previous six months - Same as above. This is why Berkshire Hathaway was left out of the index before its 50:1 stock spit.
-most of its shares in the public’s hands - Wouldn't you rather partner with management who held significant "skin in the game"? Google the "wealth index" to see what happens when you invest in an index of companies where the founder still works as the ceo and ownes a significant portion of the company. Buffett, John Malone, Nicholas Howley etc...
If you want to index. That's fine, but do so intelligently. What are ways you can index and minimize the negatives of the S&P's selection criteria? My problem with many of the indexes, especially those mirrored by vanguard, is the selection criteria. The criteria centers around liquidity and is necessary so vanguard can invest 100's of billions of dollars, not because it is a good way to weight your portfolio.
These points are not opinions. You can choose to ignore them, but you are giving up portfolio diversity and returns.
Why do you use VTI as opposed to the S&P 500 EFT? VTI is more diversified and outperforms the S&P 500 with similar risk. Why do you add bonds and international to your 3 fund portfolio? To diversify and lessen risk. All this "smart" portfolio is doing is getting rid of cap*liquidity weighting which exists to allow for the creation of larger indexes, not to enhance returns or represent the market as a whole.
Think of it this way:
You hold 3 funds as opposed to only VTI to increase the Sharpe ratio (measure of return vs risk) .05 from 0.49 to 0.54. This portfolio increases the Sharpe ratio .06 from 0.54 to 0.6. It might not seem like much, but this portfolio is as superior to your 3 fund portfolio as the three fund is to a 100% VTI portfolio.
I understand if you are just directing new investors to keep them from being overwhelmed. If you are arguing because you think a 3 fund porfolio is superior, you are ignoring facts. A lazy 3 fund portfolio will do fine in the long run, but has unperformed this portfolio in 5/6 5 year periods since 1982 (the only period it did not outperform what the tech crazy which ended up being a good thing). If you are too lazy to run a superior portfolio then state that as your reason. An extra % is worth it too me.
I think it's the point that all you're doing is moving risks from one thing to another. An equal weight portfolio has more sector risk in some sectors than a market cap portfolio. It doesn't lessen risk just shifts it to somewhere else.
This equal weight portfolio will also have higher turnover as each sector will behave differently and you have to buy/sell some sectors to maintain that equal weight. This in turn means more active management which means more fees.
Again no free lunch. It's an interesting idea but it is no different than any other guessing game. I'd still advise most people to stick with simple market based index funds. If you're a "sophisticated investor" then you're probably not looking for advice on this board anyway for investing, you're already sophisticated.
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That's an interesting article, with good points. The thread of course has a lot of interesting comments. I think that the strategy someone chooses to invest their money ultimately depends on:
1) Investor goals
2) Level of knowledge & experience
3) Ability to stick to strategy through thick and thin
4) Investor limitations, such as time commitments, or workplace restraints
I personally know several people who would never even touch stocks. But they are doing pretty well financially by investing in rental real estate. So whether their "total returns" are lower or higher than what an investment in S&P 500 would have been over the past 10 - 20 - 30 years is irrelevant to them. They bought what they knew, they live off those rent checks, and reinvested the rest into more properties
I personally have most of my money in dividend growth stocks and would feel uncomfortable holding a portfolio:
- which someone else picked, and charges me money for it
- which can be changed on a whim regardless of insane valuation levels ( e.g. Yahoo being added in 1999 to S&P 500)
- which is structured in a way that it accommodates large money inflows from funds, not underlying business fundamentals
- which would require me to sell off assets, and expose me to return frequency risk ( which could be bad during a prolonged flat or down market – like the 1999 – 2012 period)
- which looks diversified on the surface, but the largest 30 – 40 components account for almost half of portfolio
- which exhibits a lot of turnover, and as we all know, frequent churning of holdings is bad for long-term returns
Instead, I buy companies that pay and grow dividends. I expect to hold them “forever”, or if something changes (if they cut those dividends). My dividends are always positive, and grow above the rate of inflation. I have a say on valuation, portfolio weights , I monitor my companies, I research them, and I enjoy it. My annual investment expenses are lower than the lowest cost Vanguard fund, and I rarely sell. It is easier for me to focus on dividend income growth, rather than focus on stock price fluctuations ( particularly relative to another group of securities). I cannot tell you whether the stock market will up, down, or sideways in the next 10 years. But I can be reasonably certain that the companies I own as a group will pay me good and growing dividends. If they don’t then we will have much bigger problems to worry about than the performance of investment portfolios.
My thing is, if I needed say $30K/year, and my portfolio throws off $30K/year, then why do I care about how much more I would have earned in another scenario? When you compare yourself to others, you will never be happy, and you are much more likely to do a stupid thing at the wrong time ( e.g. change a strategy if it has a temporary setback, and thus compound problems).
I mean, if I had studied to be a software engineer, rather than business school, I might have made more money but be totally miserable and much less likely to stick to working in the field.
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I personally have most of my money in dividend growth stocks
LOL. Who knew all we had to do was post some links (http://forum.mrmoneymustache.com/ask-a-mustachian/investing-for-dividends/) to the blogs of the Dividend Boys, and after checking the referrers they would suddenly poof into existence here like a couple of genies!
Except genies grant wishes.
All we get from you is a tired spiel on dividend growth investing that you've probably repeated 100 times on your blog, in a thread that has nothing to do with dividend investing, based on an article that had nothing to do with dividend investing.
What a ripoff. I want my wishes. :-(
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It saddens me that MMM readers (who are taking the time to air dry laundry for God sake) won't take the time to become sophisticated investors.
Hahaha....I liked that. As I make decisions along my retirement path I try to keep a big picture view of things are not spend time on 10.001% stuff when there is 8% gains to be made.
One thing though at the moment my investment skills are low and my time to learn is limited. Once I am working less than 50% of the time I'll be able to gain better investment knowledge, but the time to grow my money fast is now and later on I'll need to be more cautious with it.
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I personally have most of my money in dividend growth stocks
LOL. Who knew all we had to do was post some links (http://forum.mrmoneymustache.com/ask-a-mustachian/investing-for-dividends/) to the blogs of the Dividend Boys, and after checking the referrers they would suddenly poof into existence here like a couple of genies!
Except genies grant wishes.
All we get from you is a tired spiel on dividend growth investing that you've probably repeated 100 times on your blog, in a thread that has nothing to do with dividend investing, based on an article that had nothing to do with dividend investing.
What a ripoff. I want my wishes. :-(
Anytime someone launches a personal attack against me, I remind myself of the words of Charlie Munger:
"Never wrestle with a pig because if you do you'll both get dirty, but the pig will enjoy it."
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Buffett's public advice is also very different from his private advice and what he does. He also just gives so much advice that a lot of it is contradictory. He always talks about buying companies with moats and competitive advantages, but he does do cigar-butt net-net investing whenever he has the opportunity, even quite recently (see PetroChina, Daehan Flour Mills, etc.).
He says individual investors should index, but he also talks about how someone can do what he did in the '50s (invest in obscure securities and make high rates of return) now, too, many of the same factors exist.
The point is that disciplined index investing is in fact the optimal strategy for the vast majority of people. But that doesn't mean it's literally the only strategy that works for anyone. MMM is about DIY. If someone has the aptitude and interest in becoming educated in finance and accounting, and the emotional discipline to invest in individual securities, and the willingness to spend a lot of time on it, they may in fact be able to beat the market (or otherwise achieve their individual goals that may not have to do with beating the market as such, which was the point of Joshua's article).
It's like saying no one should make furniture because everyone can buy cheap furniture at IKEA. If you have the aptitude and ability to make furniture, it can still make sense for you because you can make better furniture and you have fun doing it. If you can get good results and enjoy the process, you shouldn't be ostracized as only a lucky gambler because you aren't only investing in index funds.
Very well said.
One of the things I find frustrating in these discussion is the insistence by the index zealots that inability of most mutual funds to beat the S&P or even the appropriate index over extended periods of time, should be broaden to conclude individuals can't either. Mutual funds are not individual people, they are almost always made up of teams of people. The membership of the team is constantly changing, the average tenure of mutual fund manager is 4.5 years, and I suspect the tenure of the assistant manager, or the junior analyst is even shorter.
I like to use a sport analogy. Think of individual professional athlete as stocks, Aaron Rodgers as Apple, Kevin Durant as GE, and Clayton Kershaw as Google. There are only a couple thousand major league players and several thousand more minor league players, a similar number to number of US stocks. There is a great deal of information and analysis available about the top players, and Dow company, much less about minor league players or microcap stocks. There is a strong consensus that Apple, GE, and Google will all make billions of dollars next year, and the Rodgers will throw lots of TDs, Durant score lots of points, block shots, and Kershaw pitch some great games and have a low ERA. Now stuff might happen that would cause the company/player to have a bad year.
The real challenging thing is for a general manager figure out it these star players are worth their salary/draft picks. On average sports team lose as many games as they win, and over long periods (25+ years) almost no teams are over 600 (The Yankees, Lakers,and Celtics I believe being the only exceptions last I looked). Yet there is a little doubt that some General Manager (e.g. A's manager Billy Beane of Money Ball fame) are more skilled at evaluating talent than others. The difficulty that sports franchise have is the same that mutual funds have it is really difficult to spot the great general manager/coach of money manager in advance, and once you know about them they become very expensive and often unobtainable. There is also a significant amount of luck involved in both sports and stock picking which makes it hard to differentiate skill vs luck.
A really recent phenomena is fantasy sports league, where players get to act as their own general manager and create their own team. Eventhough I love games, and have enjoyed sports game in the past, I have no interest in participating in fantasy sports. This is for a simple reason, I know a little about basketball, even less about football, and virtually nothing about baseball. As such I know that I'd be crushed in fantasy sport league. Now that doesn't mean I might not get lucky and have a winning team or two, but I pretty convinced that there is skilled involved fantasy sports, and I don't have it. In fact, I suspect that there are actually fantasy sport players who are better managers than many college and even a few professional general managers.
I am willing to invest roughly as much time as most serious fantasy sports fans in investing in stocks. I don't have to be Warren Buffett, or Peter Lynch I just have to be better than most folks to make it worth my while, and after 30+ years of doing it, I am pretty convinced I am.
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Joshua Kennon is obviously a smart guy--and if he's telling the truth about everything (no doubt that he isn't) he's super successful and has made a boat load of money. I haven't read all of his blog posts, but many of his investing ones show how he has made impressive gains picking blue chip stocks, as well as huge gains picking up great values in IPOs and also penny stocks (American Eagle/Yankee Candle). I can't help but wonder how much of this is luck vs true skill. Again, not saying he doesn't have skill, but it was hard to not make money after 2009 picking up companies like GE, JNJ, KO, MCD. Of course--I didn't do it because I am a brainwashed indexer. I would feel like a failure if I were to venture off and try to pick stocks to outperform my VFIAX/VTSAX benchmark.
I read Joshua Kennon and I go "is it really that hard to see that Disney and Coca Cola and Exxon make boat loads of money every year? Buy them!" and then I read Jim Collins and go "man Jim is way smarter than me and he just says buy VTSAX...he pissed away money trying to do what Joshua is doing."
So here I am, an indexer, unable to bring myself to try to take chances and pick up some stocks. I guess I'll just have to stick to average.
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Again, not saying he doesn't have skill, but it was hard to not make money after 2009 picking up companies like GE, JNJ, KO, MCD. Of course--I didn't do it because I am a brainwashed indexer. I would feel like a failure if I were to venture off and try to pick stocks to outperform my VFIAX/VTSAX benchmark.
VTI did done better that any of those picks. :)
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Again, not saying he doesn't have skill, but it was hard to not make money after 2009 picking up companies like GE, JNJ, KO, MCD. Of course--I didn't do it because I am a brainwashed indexer. I would feel like a failure if I were to venture off and try to pick stocks to outperform my VFIAX/VTSAX benchmark.
VTI did done better that any of those picks. :)
VTI did bette than GE, JNJ, KO or MCD over what time period period? Certainly not true over all time periods.
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Again, not saying he doesn't have skill, but it was hard to not make money after 2009 picking up companies like GE, JNJ, KO, MCD. Of course--I didn't do it because I am a brainwashed indexer. I would feel like a failure if I were to venture off and try to pick stocks to outperform my VFIAX/VTSAX benchmark.
VTI did done better that any of those picks. :)
VTI did bette than GE, JNJ, KO or MCD over what time period period? Certainly not true over all time periods.
Correct. I was looking at 1/1/2010 - 3/10/2015.
If it was timed correctly, a MCD sale in in 2012-2013 would've done better than VTI.
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Index,
Just so I have this straight, the idea is to basically decompose the index fund into a collection of index funds thereby giving you more gains when you rebalance?
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Yet there is a little doubt that some General Manager (e.g. A's manager Billy Beane of Money Ball fame) are more skilled at evaluating talent than others.
I think you misunderstood the story of 'Moneyball' a bit. Billy Beane's success came not because he was a good talent evaluator (he was almost the opposite), but because he was good at finding inefficiencies in the market and exploiting them. During the Moneyball era, it was that on-base-percentage was undervalued by the market. Rather than looking at a player's talent, he'd just look at their OBP statistic, see how much the market was paying them, and acquire them if it could be done cheaply.
I was actually quite astonished that such inefficiencies could exist for decades in a market with so much money flying around, but given that there are only 30 players in that market at any one time, and most of them didn't come from a math or financial background, it made at least a bit of sense. But once Beane started revealing an inefficiency, the rest of the market quickly wised up, closed the inefficiency, and forced Beane to find another one. As the teams hired more statistically-minded people, it's become more and more difficult for Beane to stay ahead of anyone else.
I'm quite sure that if these inefficiencies are finally being wrung out of the baseball market, they were wrung far more thoroughly out of financial markets ages ago, given the amount of financially-motivated brainpower that dwarfs that found in the MLB market.
I don't know about general managers, but it's almost impossible to be a standout field manager in MLB (only 6 of 172 mangers in the last 30 years have been shown to improve their team (http://fivethirtyeight.com/features/most-managers-are-headed-to-the-hall-of-mediocrity/)). But your stats about the rarity of .600+ teams seem to show how rare outperforming GMs/owners are too. And I'd guess those are about an order of magnitude easier to find than a standout portfolio manager.
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Index,
Just so I have this straight, the idea is to basically decompose the index fund into a collection of index funds thereby giving you more gains when you rebalance?
This + creating a "properly" weighted portfolio, by sector. Because some sectors are over/underweight. Which ones? I don't know. He's the one with the magic stock picking sector picking crystal ball.
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I am willing to invest roughly as much time as most serious fantasy sports fans in investing in stocks. I don't have to be Warren Buffett, or Peter Lynch I just have to be better than most folks to make it worth my while, and after 30+ years of doing it, I am pretty convinced I am.
have you measured your performance against a benchmark?
Are you able to show us the results?
cheers mate.
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Joshua Kennon is obviously a smart guy--and if he's telling the truth about everything (no doubt that he isn't) he's super successful and has made a boat load of money. I haven't read all of his blog posts, but many of his investing ones show how he has made impressive gains picking blue chip stocks, as well as huge gains picking up great values in IPOs and also penny stocks (American Eagle/Yankee Candle). I can't help but wonder how much of this is luck vs true skill. Again, not saying he doesn't have skill, but it was hard to not make money after 2009 picking up companies like GE, JNJ, KO, MCD. Of course--I didn't do it because I am a brainwashed indexer. I would feel like a failure if I were to venture off and try to pick stocks to outperform my VFIAX/VTSAX benchmark.
I read Joshua Kennon and I go "is it really that hard to see that Disney and Coca Cola and Exxon make boat loads of money every year? Buy them!" and then I read Jim Collins and go "man Jim is way smarter than me and he just says buy VTSAX...he pissed away money trying to do what Joshua is doing."
So here I am, an indexer, unable to bring myself to try to take chances and pick up some stocks. I guess I'll just have to stick to average.
Kennon's general advice for people is to just index. He's particular about sharing info on what he is investing in. If he's writing about it, seldom is it real time, rather he's already moved past that investment decision. He's not trying to give advice, most of his stock related posts are more case studies and he tents to keep to blue chips for those.
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Another point that I don't know has been mentioned is that the bid/ask spread on ETFs can drag on performance. This is especially impactful when you are regularly purchasing. Vanguard has a tool to compare VTI to their equivalent fund and I found the fund came out on top after accounting for these factors. I'd be worried about bid/ask dragging my portfolio with so many sector ETFs.
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Correct. I was looking at 1/1/2010 - 3/10/2015.
If it was timed correctly, a MCD sale in in 2012-2013 would've done better than VTI.
If you're looking at price appreciation only, then you're not getting the full story
edit: looks like for total returns, VTI is still beating KO and GE for the time period listed (too lazy to look up the others)
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Again, not saying he doesn't have skill, but it was hard to not make money after 2009 picking up companies like GE, JNJ, KO, MCD. Of course--I didn't do it because I am a brainwashed indexer. I would feel like a failure if I were to venture off and try to pick stocks to outperform my VFIAX/VTSAX benchmark.
VTI did done better that any of those picks. :)
VTI did bette than GE, JNJ, KO or MCD over what time period period? Certainly not true over all time periods.
Correct. I was looking at 1/1/2010 - 3/10/2015.
If it was timed correctly, a MCD sale in in 2012-2013 would've done better than VTI.
Such a short time frame with mostly nothing but up and to the right! Let's look at a 15 year time frame and use VTSMX instead of VTI, as I don't think VTI has been around for 15 years.
Total Returns (% per year) in the last 10 years according to Morningstar:
GE:-1.09%
JNJ: 8.66%
KO: 5.56%
MCD: 9.17%
VTSMX: 4.65%
So basically, every one of these stocks except GE (duh!) beats the Vanguard Total Stock Market Index. Now don't get me wrong -- I'm mostly an indexer, but as Joshua and Warren say, it's all about the holding period people....and within this lengthy timeframe you've got both a moderately crappy downturn (early 2000s) and a meltdown (2008) constituting "the lost decade."
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Again, not saying he doesn't have skill, but it was hard to not make money after 2009 picking up companies like GE, JNJ, KO, MCD. Of course--I didn't do it because I am a brainwashed indexer. I would feel like a failure if I were to venture off and try to pick stocks to outperform my VFIAX/VTSAX benchmark.
VTI did done better that any of those picks. :)
VTI did bette than GE, JNJ, KO or MCD over what time period period? Certainly not true over all time periods.
Correct. I was looking at 1/1/2010 - 3/10/2015.
If it was timed correctly, a MCD sale in in 2012-2013 would've done better than VTI.
Such a short time frame with mostly nothing but up and to the right! Let's look at a 15 year time frame and use VTSMX instead of VTI, as I don't think VTI has been around for 15 years.
Total Returns (% per year) in the last 10 years according to Morningstar:
GE:-1.09%
JNJ: 8.66%
KO: 5.56%
MCD: 9.17%
VTSMX: 4.65%
So basically, every one of these stocks except GE (duh!) beats the Vanguard Total Stock Market Index. Now don't get me wrong -- I'm mostly an indexer, but as Joshua and Warren say, it's all about the holding period people....and within this lengthy timeframe you've got both a moderately crappy downturn (early 2000s) and a meltdown (2008) constituting "the lost decade."
How about Mid cap index? As I recall, it did pretty well in the "lost decade"
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I am willing to invest roughly as much time as most serious fantasy sports fans in investing in stocks. I don't have to be Warren Buffett, or Peter Lynch I just have to be better than most folks to make it worth my while, and after 30+ years of doing it, I am pretty convinced I am.
have you measured your performance against a benchmark?
Are you able to show us the results?
cheers mate.
Using the Schwab portfolio tool, I'm up 16.4% annually since Jan 2009 vs 13.3% of a moderately aggressive portfolio (basically a 80/20) and I've done so while taking slightly less risk standard deviation of 12.3 vs 12.8% for the index. Over a longer period of time. I've taken my 16 yeasr of 401K contributions, ages 24-40 (when I retired) and over the last 30 years turned it into over a $1 million.
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Yet there is a little doubt that some General Manager (e.g. A's manager Billy Beane of Money Ball fame) are more skilled at evaluating talent than others.
I think you misunderstood the story of 'Moneyball' a bit. Billy Beane's success came not because he was a good talent evaluator (he was almost the opposite), but because he was good at finding inefficiencies in the market and exploiting them. During the Moneyball era, it was that on-base-percentage was undervalued by the market. Rather than looking at a player's talent, he'd just look at their OBP statistic, see how much the market was paying them, and acquire them if it could be done cheaply.
I was actually quite astonished that such inefficiencies could exist for decades in a market with so much money flying around, but given that there are only 30 players in that market at any one time, and most of them didn't come from a math or financial background, it made at least a bit of sense. But once Beane started revealing an inefficiency, the rest of the market quickly wised up, closed the inefficiency, and forced Beane to find another one. As the teams hired more statistically-minded people, it's become more and more difficult for Beane to stay ahead of anyone else.
I'm quite sure that if these inefficiencies are finally being wrung out of the baseball market, they were wrung far more thoroughly out of financial markets ages ago, given the amount of financially-motivated brainpower that dwarfs that found in the MLB market.
I don't know about general managers, but it's almost impossible to be a standout field manager in MLB (only 6 of 172 mangers in the last 30 years have been shown to improve their team (http://fivethirtyeight.com/features/most-managers-are-headed-to-the-hall-of-mediocrity/)). But your stats about the rarity of .600+ teams seem to show how rare outperforming GMs/owners are too. And I'd guess those are about an order of magnitude easier to find than a standout portfolio manager.
I did read the book, and I don't think I misunderstood it. Beane determined that getting on base was more valuable to winning games than was generally understood by baseball manager who valued things like slugging percentage and RBI too highly. His method of evaluating talent was to look at on base stats, rather than their swing, quickness,or the rather intangible leadership skills. Given the hundreds of scouts, and hundreds of minor league teams out there I think there are a lot more than just 30 people paying attention, not to mention the million of fantasy league fans. It doesn't surprise me in the least, that there were inefficiency most people are far more comfortable accepting conventional wisdom rather than engaging in first principal thinking.
My point about very winning teams, was that that mask the individual efforts of the good coaches and GMs. Sports teams go through coaches very frequently, GM fairly often, and new owner perhaps every 20 years. It is very hard to identify really good coaches or GM, except in hindsight. For years the knock against Phil Jackson was that hey anybody could win lots of games if you had Michael Jordan. It is the same problem with mutual fund, they go through fund manager and asst fund managers very rapidly and it is very difficult to judge who is really good vs lucky when comes to both assembling a sports team, or a collection of stocks in a portfolio.
I think is perfectly reasonable to say invest in index funds, cause you don't feel confident in your ability to pick a money manager who is truly good vs lucky. I don't feel confident in that either. .
But to conclude that aren't folks who are more skilled at stock picking, doesn't make sense.
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Joshua Kennon is obviously a smart guy--and if he's telling the truth about everything (no doubt that he isn't) he's super successful and has made a boat load of money. I haven't read all of his blog posts, but many of his investing ones show how he has made impressive gains picking blue chip stocks, as well as huge gains picking up great values in IPOs and also penny stocks (American Eagle/Yankee Candle). I can't help but wonder how much of this is luck vs true skill. Again, not saying he doesn't have skill, but it was hard to not make money after 2009 picking up companies like GE, JNJ, KO, MCD. Of course--I didn't do it because I am a brainwashed indexer. I would feel like a failure if I were to venture off and try to pick stocks to outperform my VFIAX/VTSAX benchmark.
I read Joshua Kennon and I go "is it really that hard to see that Disney and Coca Cola and Exxon make boat loads of money every year? Buy them!" and then I read Jim Collins and go "man Jim is way smarter than me and he just says buy VTSAX...he pissed away money trying to do what Joshua is doing."
So here I am, an indexer, unable to bring myself to try to take chances and pick up some stocks. I guess I'll just have to stick to average.
Kennon's general advice for people is to just index. He's particular about sharing info on what he is investing in. If he's writing about it, seldom is it real time, rather he's already moved past that investment decision. He's not trying to give advice, most of his stock related posts are more case studies and he tents to keep to blue chips for those.
I poked around his blog and read how he bought Smuckers for his mother in law "because people will always need to buy jam", and Diaego for his parent's because they make a lot of money (or something like that), so I'm not convinced he's a particularly smart guy.. Unfortunate his blog only started in 2009 so I can only see his posts during a massive bull market.
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Joshua Kennon is obviously a smart guy--and if he's telling the truth about everything (no doubt that he isn't) he's super successful and has made a boat load of money. I haven't read all of his blog posts, but many of his investing ones show how he has made impressive gains picking blue chip stocks, as well as huge gains picking up great values in IPOs and also penny stocks (American Eagle/Yankee Candle). I can't help but wonder how much of this is luck vs true skill. Again, not saying he doesn't have skill, but it was hard to not make money after 2009 picking up companies like GE, JNJ, KO, MCD. Of course--I didn't do it because I am a brainwashed indexer. I would feel like a failure if I were to venture off and try to pick stocks to outperform my VFIAX/VTSAX benchmark.
I read Joshua Kennon and I go "is it really that hard to see that Disney and Coca Cola and Exxon make boat loads of money every year? Buy them!" and then I read Jim Collins and go "man Jim is way smarter than me and he just says buy VTSAX...he pissed away money trying to do what Joshua is doing."
So here I am, an indexer, unable to bring myself to try to take chances and pick up some stocks. I guess I'll just have to stick to average.
Kennon's general advice for people is to just index. He's particular about sharing info on what he is investing in. If he's writing about it, seldom is it real time, rather he's already moved past that investment decision. He's not trying to give advice, most of his stock related posts are more case studies and he tents to keep to blue chips for those.
I poked around his blog and read how he bought Smuckers for his mother in law "because people will always need to buy jam", and Diaego for his parent's because they make a lot of money (or something like that), so I'm not convinced he's a particularly smart guy.. Unfortunate his blog only started in 2009 so I can only see his posts during a massive bull market.
I've read several dozen of his posts. I think he's a smart guy in some ways and doesn't quite get it in others. He has way more insight on investing than the average person (low bar). He has some interesting articles about ways to make money through business when you don't have any capital (synthetic equity). He has many articles that show (in hindsight) that if you picked a really great company and bought a lot of stock in it and held it for a really long time you would make a lot of money through both price appreciation and dividends. An important point, but not earth-shattering. He doesn't point out that by only getting a handful of "great companies" you could easily lose out to an index fund because you're missing the companies that didn't look great at the time but then just blew up and made crazy money for the investors.
Some ways he doesn't get it is that he frequently says things that make it sound like he's a dividend growther, and doesn't understand that what you want is total return and are agnostic (in a tax advantaged account) or hurt by (in a taxable account) getting a dividend stream. Another way is that he is totally not mustachian. He talks about how he blows crazy money on things, because they are luxury goods, and idolizes brands like crazy and likes to include $100 bills in his photos as bookmarks, etc.
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Some ways he doesn't get it is that he frequently says things that make it sound like he's a dividend growther, and doesn't understand that what you want is total return and are agnostic (in a tax advantaged account) or hurt by (in a taxable account) getting a dividend stream. Another way is that he is totally not mustachian. He talks about how he blows crazy money on things, because they are luxury goods, and idolizes brands like crazy and likes to include $100 bills in his photos as bookmarks, etc.
http://www.joshuakennon.com/focus-on-total-return-to-manage-your-investments-better/
???
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I poked around his blog and read how he bought Smuckers for his mother in law "because people will always need to buy jam", and Diaego for his parent's because they make a lot of money (or something like that), so I'm not convinced he's a particularly smart guy.. Unfortunate his blog only started in 2009 so I can only see his posts during a massive bull market.
He admires Smuckers and Diaego because they're good businesses (structure, cash flow, return on asset/equity) and because they sell tangible goods. He doesn't like technology for the most part because there's a lack of intrinsic support behind the stock price (in most cases), not saying that he's right or wrong in the long term, but it's more about the thought process behind things. Here's the diaego post, where he talks about how the business is great but he WOULDN'T buy the stock:
http://www.joshuakennon.com/a-good-business-is-not-always-a-good-stock-a-case-study-of-diageo/
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Some ways he doesn't get it is that he frequently says things that make it sound like he's a dividend growther, and doesn't understand that what you want is total return and are agnostic (in a tax advantaged account) or hurt by (in a taxable account) getting a dividend stream. Another way is that he is totally not mustachian. He talks about how he blows crazy money on things, because they are luxury goods, and idolizes brands like crazy and likes to include $100 bills in his photos as bookmarks, etc.
http://www.joshuakennon.com/focus-on-total-return-to-manage-your-investments-better/
???
Maybe I misunderstood but that article seems to be saying "focus on total return instead of just stock price increase," not "focus on total return instead of just increasing dividends." Which would somewhat support forummm's statement.
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Some ways he doesn't get it is that he frequently says things that make it sound like he's a dividend growther, and doesn't understand that what you want is total return and are agnostic (in a tax advantaged account) or hurt by (in a taxable account) getting a dividend stream. Another way is that he is totally not mustachian. He talks about how he blows crazy money on things, because they are luxury goods, and idolizes brands like crazy and likes to include $100 bills in his photos as bookmarks, etc.
http://www.joshuakennon.com/focus-on-total-return-to-manage-your-investments-better/
???
He's somewhat inconsistent. This article talks about total return. Great. Another article talks about how he purposefully selected stocks that paid high dividends for a tax-advantaged account he had because he was limited to how much money he could add to the account each year, and that the dividends would allow him to keep buying more stocks in the account. Which is actually a bad strategy in the sense that 1) he'll have a lot of cash laying around uninvested, 2) he may not be picking stocks for the best total return, and 3) all those trading costs of continually buying more stocks.
I don't have the time to look for that article. Like I said, I've read several dozen posts. He's been posting for 6 years, so I don't have a full analysis of all his articles. Like I said, he has some interesting things to say. And some things I don't agree with.
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Correct. I was looking at 1/1/2010 - 3/10/2015.
Such a short time frame with mostly nothing but up and to the right! Let's look at a 15 year time frame and use VTSMX instead of VTI, as I don't think VTI has been around for 15 years.
The post to which I was responding said "after 2009." Since 2005 is before 2009, I intentionally didn't include that year.
In other words, not just anyone could've picked any stock after 2009 and done better than the market. That's the point.
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I was looking on his site to see if there was a log of his historical returns. I couldn't find that (though the reply after this one posted a link to it), but I did find this:
#2 What Are Your Ultimate Plans?
Within 5 years, I hope to consolidate everything I own into a single hedge fund or holding company and issue equity to outside investors. I’m also considering launching a value based mutual fund for regular investors who want to buy shares of global stocks and bonds using the same method I use to choose investments for my firm.
Oh that makes me happy. I had thought he said he wasn't going to do this. Wonder when that was written.
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I poked around his blog and read how he bought Smuckers for his mother in law "because people will always need to buy jam", and Diaego for his parent's because they make a lot of money (or something like that), so I'm not convinced he's a particularly smart guy.. Unfortunate his blog only started in 2009 so I can only see his posts during a massive bull market.
He admires Smuckers and Diaego because they're good businesses (structure, cash flow, return on asset/equity) and because they sell tangible goods. He doesn't like technology for the most part because there's a lack of intrinsic support behind the stock price (in most cases), not saying that he's right or wrong in the long term, but it's more about the thought process behind things. Here's the diaego post, where he talks about how the business is great but he WOULDN'T buy the stock:
http://www.joshuakennon.com/a-good-business-is-not-always-a-good-stock-a-case-study-of-diageo/
And that's great. But HAD he purchased DEO ~15 years ago he'd be kicking the S&P 500's ass by a factor of 3 to 1.
Å’kålè ma’luna!
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Again I don't see how picking individual stocks for the long run is prudent when a company can go out of business at any time.
He does a great case study on Kodak. According to Kennon even if you had just held Kodak all the way down to zero you still would have done well because you would have collected a boat load of dividends and had a significant amount of stock in one of its spin offs which did well. A person who was "paying attention" wouldn't have held Kodak all the down because the signs were telling you to get out--I guess based on the annual reports/dividends getting cut etc.
But how do you know? Apple was about to go out of business until Bill Gates came along and gave them a lifeline. Fast forward 20 or so years and it's the largest company in the world.
Using that logic...how do we know Smuckers or Disney will be the same way? DUNNO. But it's interesting to sit back and watch.
BTW I do like how he buys his nieces and nephews shares of companies that the kids are interested in. I would do that as well...one or two shares at a time for birthday or christmas of course... I think it would be fun to tell a 6 or 7 year old that they are a part owner of Disney!
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Again I don't see how picking individual stocks for the long run is prudent when a company can go out of business at any time.
He does a great case study on Kodak. According to Kennon even if you had just held Kodak all the way down to zero you still would have done well because you would have collected a boat load of dividends and had a significant amount of stock in one of its spin offs which did well. A person who was "paying attention" wouldn't have held Kodak all the down because the signs were telling you to get out--I guess based on the annual reports/dividends getting cut etc.
But how do you know? Apple was about to go out of business until Bill Gates came along and gave them a lifeline. Fast forward 20 or so years and it's the largest company in the world.
Using that logic...how do we know Smuckers or Disney will be the same way? DUNNO. But it's interesting to sit back and watch.
BTW I do like how he buys his nieces and nephews shares of companies that the kids are interested in. I would do that as well...one or two shares at a time for birthday or christmas of course... I think it would be fun to tell a 6 or 7 year old that they are a part owner of Disney!
Some companies and industries are more predictable than others. Technology, in general, is an industry that is very hard to forecast, and this is why many value investors have tended to stay away from tech companies. It's hard to value a business when you have no idea what the industry it is in will look like 10-20 years from now. Of course sometimes, something is so cheap that you don't have to do much forecasting - Apple was trading at roughly 5-6X cash flow in mid-2013, and in order to be comfortable buying at that price, you don't have to assume much of anything about 20 years down the road. In contrast when you pay 50 or 100 times earnings for a young tech company, you are forced to make long-term forecasts.
Businesses like Smuckers are much different than tech companies. Jam doesn't get reinvented year after year like tech does. If you have a powerful brand and a product people grew up with, you have a moat that isn't easy to circumvent. Disney has a brand and a cast of characters that have incredible value and can't be replicated or copied. It's very, very different than tech businesses.
I would throw in another category of businesses that are very difficult to value and can easily run into trouble: commodity businesses. Anytime you are selling a product and are a price taker in a market where people don't differentiate your product from that of anybody else, you can quickly run into trouble. Of course we're seeing that now with oil, but the same dynamics exist in many different other businesses as well. These businesses are flying high one day and then two years later are filing for bankruptcy.
Bottom line is you can only buy something (as an investor, and not a speculator) if you feel you know what it is worth and that you're buying at a discount to that value. Plenty of businesses will be totally out of reach for you to value, and you can just ignore those companies.
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Follow a rule of never investing more than 4% in a single individual security and XX% in individual securities overall as a percentage of your stock portfolio (my XX for individual securities is about 10-12%) and you should never lose any sleep. I remember working at a public company whose shares went from $219 to about $3 in the period from 2000 to 2003. We had old ladies calling IR and screaming, "I've lost everything!!!" to which one could only silently respond, "Why? Why did you DO that?"
And I'm confident Diageo will outlive me...highly confident. But if it goes POOF overnight I'll be fine.