
How Many Mutual Funds Routinely Rout the Market? Zero - dcre
http://www.nytimes.com/2015/03/15/your-money/how-many-mutual-funds-routinely-rout-the-market-zero.html
======
cs702
_Misleading_ statistic: "We selected the 25 percent of funds with the best
returns over those 12 months — and then asked how many of those funds actually
remained in the top quarter in each of the four succeeding 12-month periods
through March 2014."

The statistic that matters, as Warren Buffett and others have repeated again
and again, is COMPOUND RETURN!!!

Consider these two investment options. Option 1 outperforms 60% of the time
(three out of five years), but Option 2 produces a greater compound gain:

    
    
      YEAR     Option 1  Option 2
      Year 1       8.0%     15.0%
      Year 2       8.0%      7.0%
      Year 3       8.0%      4.0%
      Year 4       8.0%     19.0%
      Year 5       8.0%      6.0%
      
      Total gain  46.9%     61.4%
      Compound/yr  8.0%     10.1%
    

The study I'd love to see is one that finds out (1) whether there are actively
managed funds that consistently produce better _compound returns_ than the
indices over five to 10 year periods, and (2) whether there are any unusual
concentrations of long-term compound outperformance that cannot be explained
by chance among those funds.

For example, what if it turns out that only a small number of actively managed
funds are consistent long-term outperformers but many of them claim to use the
same investment methodology? That would be a _very_ unusual concentration of
long-term success. I'd love to see a study with that kind of analysis.

~~~
nostrademons
It depends who you are and what you're looking for.

If you're the fund manager, owner, or an individual investor, then compound
return absolutely matters. You want the most amount of money at the end of the
time period, and you've already committed your capital.

But if you're a retail investor trying to _decide_ where you want to put your
capital - which, presumably, is who this article is aimed at - what you're
looking for is whether the fund in question will outperform your alternatives.
What this article is saying is "past performance is no guarantee of future
results", i.e. you do just as well putting your money in an index fund or
investing via a dartboard as you would picking the top-ranked fund in last
year's returns.

You don't get to travel back in time 5 years to make your investment
decisions, so compound returns _in the past_ are immaterial to you. You want
the highest compound returns _in the future_ , which _on average_ come from
passively investing in the indexes.

~~~
rbcgerard
The problem is that the article does not make that link. Because a manager
does not remain in the top quartile of his/her PEERS does not mean they
necessarily under performed the index...

------
ghettoCoder
Nothing new here. Mutual funds are just a way for fund managers to charge
inflated management fees for average to below average returns. Get a basic
index fund and save the fees. The few years the managed funds beats the index
funds will easily be offset by all the fees and other gotchas.

~~~
walshemj
only problem with the index funds Is you have to buy the dogs in the index an
active managed fund can get out of situations like the uk supermarkets and
banks.

I number of my actively managed investments did this so now an index fund will
realistically always under perform this active fund.

~~~
asr
The entire point of decades of research, and the above article, is that next
to nobody can reliably tell you in advance which stocks are "the dogs." I'm
glad for you, but if you want to convince me your active funds can reliably
beat the market you would need to provide me a lot more data, as you are
swimming upstream against a raging torrent of empirical research.

~~~
walshemj
Where do the Rothschilds keep their money not in Index funds but in actively
managed IT's RIT Capital Partners has done very nicely.

And Mr Buffet's investment company has beaten wall street for decades.

You are believing all that advertising the index fund managers are putting out
and your bank is aggressively selling you.

~~~
jayvanguard
> And Mr Buffet's investment company has beaten wall street for decades.

The difference is that he has significant inside information into many of his
investments. He deeply researches the companies involved, talks to their
owners, etc. He is far smarter than your average investor but he also
purchases companies with far more information than your average investor.

~~~
dllthomas
It's not clear to me whether you meant to accuse Mr. Buffet of criminal
behavior, here. There is certainly public information that is harder to get
than other public information, but trading on inside information is a crime.

~~~
Retric
Public / Private information is only an issue when companies are publicly
traded.

If you go to buy a private company you can get a lot of non public
information. The same thing happens when you try and take a public company
private with the caveat that you can only use that information to back out of
a deal not make your first offer. AKA, you get to do an audit after the terms
where agreed upon and only get to back out of you discover major issues.

~~~
dllthomas
Right.

------
downandout
The title of this article implies that no funds beat the market over time, and
that isn't true. The study it is based on (which was done by S&P, a company
that profits when people invest based upon their index) doesn't look at
overall returns. It looks at whether any funds were in the top 25% for the
last 5 consecutive years.

The answer is no, but who cares? Profitable investing is far more about how
right you are (when you are right) than how often you are right.

------
fideloper
For those interested, Vanguard has some of the lowest cost unmanaged index
funds.

Unmanaged funds typically follow indexes and lose you the least in fees, which
is useful for those to subscribe to this idea that no one beats the market in
the long run, and thus invest mostly in index funds.

~~~
rb2k_
I personally use Charles Schwab (just because I have my bank account with
them) and Wealthfront to invest in ETFs.

Schwab is comparable with Vanguard in terms of fees and ETF availability, so I
never bothered with opening up an extra account at Vanguard.

I use Wealthfront to diversify my ETFs. They take care of distributing the
money I put in the account among several areas of the market (U.S. Stocks,
Foreign Stocks, Emerging Markets, Dividend Stocks, Natural Resources,
Municipal Bonds and Cash).

They mostly use Vanguard funds. I could probably also do this myself, but I
don't really want to manually balance my portfolio every time asset classes go
up and down. So far I only put the amount of money in there that they manage
for free. If you intend on signing up, one word of caution: I signed up on
their homepage and had 10k under free management. If you sign up via a
referral link, you get 15k. I'm still slightly annoyed that I didn't use one
when opening an account. I know that it's against the usual HN policy to post
them, but since it is detrimental to sign up without one, here we go:
[http://wlth.fr/196dDW2](http://wlth.fr/196dDW2)

(I'd check with my friends first to see if one of them is already on the
platform)

p.s. this is US centric.

~~~
matwood
There is an entertaining public fight going on between Wealthfronts and
Schwabs CEOs about their robo-investor options. Once the big boys get involved
I have a feeling Wealthfront, Betterment and others are going to feel the
pinch. Schwab has their offering now with zero fees (except for those from the
ETFs owned).

[https://intelligent.schwab.com/](https://intelligent.schwab.com/)

I have a test amount of money at Betterment now, but am researching about
moving it to Schwab.

The best thing Vanguard ever did was drive down costs across the industry.

~~~
idyllicshine
There are some downsides to Schwab's zero fee robo, from Wealthfront CEO's
perspective: [https://medium.com/@adamnash/broken-values-bottom-
lines-3d55...](https://medium.com/@adamnash/broken-values-bottom-
lines-3d550a27629)

~~~
matwood
If you're going to post the argument, probably post both sides :)

[http://www.aboutschwab.com/press/statements/response-to-
blog...](http://www.aboutschwab.com/press/statements/response-to-blog-by-
wealthfront-ceo-adam-nash)

~~~
rb2k_
These are the two posts I still have on my "read later" list. I assume both of
them are pretty good compared to other options (stock picking, mutual funds,
...) :)

------
andrewmutz
Actively managed funds struggle to beat the market over the long term. There's
a lot of evidence that passive investing (i.e. just buying a low-fee index
fund) is the way to go right now for most investors.

The presence of active management, however, is good for the rest of us.
Through their struggle to beat the market, they conduct extensive research
that is used to better price public equities.

Those better prices help the passive participants, since they pay roughly
correct prices for the dividends they will be receiving.

------
ForHackernews
Also worth noting, hedge funds (aka 'mutual funds for the extremely wealthy')
typically under-perform the market:
[http://www.bloombergview.com/articles/2015-02-12/hedge-
funds...](http://www.bloombergview.com/articles/2015-02-12/hedge-funds-
underperform-as-investors-give-them-more-money)

------
lordnacho
There's not much emphasis on risk in this article. If some fund returns the
same as the market with less risk, that's arguably beating the market. If you
can get leverage from anywhere (such as a mortgage) you can invest more in
such a fund than you otherwise could and make more money.

~~~
ndesaulniers
The term you're looking for is "efficient." Equal returns but lower risk means
the fund or allocation is more efficient.

[http://en.wikipedia.org/wiki/Efficient_frontier](http://en.wikipedia.org/wiki/Efficient_frontier)

------
spevak
This article is extremely misleading about the statistics it presents. It
claims that you could outperform the funds by investing in random stocks, but
the probabilistic model presented in the "source" article
([http://www.nytimes.com/2014/07/27/your-money/heads-or-
tails-...](http://www.nytimes.com/2014/07/27/your-money/heads-or-tails-either-
way-you-might-beat-a-stock-picker.html)) is a completely different system.

It assumes that every 12 month period, there is a 1/4 chance of being in the
top quartile of funds, which is an absurd assumption and also completely
unrelated to modeling success of picking random stocks. Sure, there'd be a 1/4
chance of being in the upper quartile of other funds ALSO INVESTING RANDOMLY.
But to say you'd have the same chances of beating other actively managed funds
makes the assumption that all the other funds are not doing any better than
random investment. Big surprise that the conclusion is that funds don't do any
better than random investment.

~~~
pessimizer
For this objection to be meaningful wouldn't the group of funds as a whole
need to have outperformed the market as a whole? The average of the return of
all stocks in the market is the same as the average of an infinite number of
random samples from the market.

------
rifung
Not that I would advocate for investing in actively managed funds, but my
understanding is that part of the reason it's been very difficult to beat the
market these past years is because stocks as a whole have been doing very
well.

At least for value investors like Warren Buffet, it seems they are more likely
to be able to beat the market when it isn't so bearish, because that's when
you'd be able to find stocks at good prices.

It also appears that the reason stocks are doing so well recently is because
of quantitative easing, although I'll admit I don't know much about the
economy; this is just what I gather from reading articles. Still, if this is
true then it's rather disturbing that the markets can be so heavily influenced
by decisions which are arguably outside of a business's direct control.

------
betatim
Can someone explain why they flip a coin twice per year per fund?

The author wrote a second column ([http://www.nytimes.com/2014/07/27/your-
money/heads-or-tails-...](http://www.nytimes.com/2014/07/27/your-money/heads-
or-tails-either-way-you-might-beat-a-stock-picker.html)) explaining how they
came up with the number of funds that would outperform the market five years
in a row.

The reasoning goes like this: 2/2862 funds made it (or about 0.07% of funds).

The author then says: If you assume a fund has a 50% chance of beating the
market, and a 50% chance of falling behind then the chances of one beating the
market five years in a row would be 0.5^(5 * 2). They just state that they
flip a coin twice per year per fund (hence 0.5^10), can someone explain why?

~~~
scottfr
"Beat the market" is misleading. In the article "beat the market" means be in
the top 25% of the market, therefore equivalent to winning two coin flips each
year.

------
OisinMoran
"Still, those two funds did manage to perform splendidly in that study. Their
stubborn persistence at the top of the heap over that five-year period
suggested that there was some hope for active fund managers. If they could do
it, after all, others could, too."

If the authors expected randomly picking stocks to churn out 3 mutual funds
that beat the market 5 years in a row then this explanation is nonsense. Their
"stubborn persistence" is just an empty narrative slapped over a blatant case
of survivorship bias. This paragraph makes it seem like whoever wrote it
didn't understand any of the rest of the article.

------
hyperbling
nothing new here.

the OP doesn't even mention anything about taxes, which shifts things even
more in favor of index investing.

------
swalsh
" The truth is that very few professional investors have actually managed to
outperform the rising market consistently over those years."

To be honest, the market has been performing so well I don't really care if my
portfolio outperforms it. My index funds have been doing pretty well by
themselves.

------
ghufran_syed
For an interesting perspective by a guy who runs his own hedge fund, but also
appears to have a lot of insight into his own performance and the way the
market works, read "Fooled by Randomness" by Nassim Taleb

------
nicholasdrake
this is really shocking.

------
walshemj
A number of the Big UK Investment trusts have been beating the FTSE 100 over
the last 10 years or more I have Several of those as inventments.

~~~
henrikschroder
Of course they have, that's the expected statistical outcome of thousands of
funds. The problem is that

1) You were lucky in picking those, not prescient.

2) Their winning streak is a result of luck, not competence.

Funds are a perfect example of survivorship bias in a zero-sum game. For
someone to win at beating the index, someone else must lose, and losers are
routinely eliminated. So when an investor presents funds for your choosing,
you only get to see the lucky ones, a biased sample. Of course it looks like a
great idea to invest in them!

~~~
walshemj
You do know that those funds have decades and some IT's cases century's of
history behind them.

The funds I mentioned have very good track records for 3 or 4 decades or more
its just that they don't pay advisors fees or pander to tracking the "index"
why do you think a number of very rich families have used active funds? If its
good enough for Lord Rothschild its good enough for me.

~~~
henrikschroder
[http://en.wikipedia.org/wiki/Survivorship_bias](http://en.wikipedia.org/wiki/Survivorship_bias)

------
vilhelm_s
> In other words, if all of the managers of the 2,862 funds hadn’t bothered to
> try to pick stocks at all — if they had merely flipped coins — they would,
> as a group, probably have produced better numbers. Instead of two funds at
> the end of five years, basic probability theory tells us there should have
> been three.

Um. You are trying to tell me that 2 instead of 3 is enough to reject the null
hypothesis? I rather doubt it.

