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Vanguard: Think Actively Managed Funds Always Outperform? Think Again
Winning in the investment universe can be a daunting task. Yesterday's superior active fund managers often fail to repeat their successes in today's marketplace. The data is overwhelming in the negative direction. Only a little over 10% of these super-pickers retain their outstanding performance in the next measurement period. Persistent outperformance is a challenge and identifying that small, elite group in advance is an even more formidable challenge.
These are not new findings. Vanguard has been making that point for a long time now. Here is a Link to yet another Vanguard study that demonstrates the futility of various candidate signal parameters to reliably project future performance:
This report is relatively recent and is well documented. Please give it a read. Here is a nice summary paragraph that I lifted from the reference:
"The current level of a blend of valuation metrics contributes to Vanguard’s generally positive outlook for the stock market over the next ten years (2012–2022). But the fact that even P/Es—the strongest of the indicators we examined—leave a large portion of returns unexplained underscores our belief that expected stock returns are best stated in a probabilistic framework, not as a “point forecast,” and should not be forecast over short horizons."
In an uncertain world, probability based analyses are useful when projecting the range of likely investment outcomes. Keeping an accessible reserve that permits you to survive a two or three year equity market downturn is a prudent strategy. Note that Vanguard trusts long term projections more than short horizon guesstimates. So do I.
Here's a chunk of the conclusion section of the column:
"Our [Vanguard's] research shows that long-term, active outperformance is possible. But choosing recent high performers in inefficient markets isn’t the answer. Instead, we found that low-cost funds run by talented managers can achieve long-term outperformance for patient investors. Patience is key, because returns will be inconsistent even for successful managers."
One can increase one's chance for success by keeping a close eye on costs. Or as stated in that cited Vanguard research: "we [Vanguard] find that investors’ odds can be improved through the use of low-cost mutual funds."
I would have found the column more interesting had it given return data gross of expenses (i.e. before subtracting out ERs), and had it done a regression analysis against turnover. (I recently cited some source saying that at least half the cost of owning the typical fund is due to turnover.)
I agree with Lewis that this is old news. But more than that, regarding the column itself, I'm left asking where's the beef? At best 11 paragraphs of substance that come across as reheated excerpts of Vanguard papers, loosely assembled and not well understood.
For example, the column misused Sharpe's observation that the market is a zero sum game. Here's how Vanguard correctly explained that in a whitepaper: "in any market, the holdings of all participants aggregate to form that market. Therefore, every dollar of outperformance achieved by one investor in the market is offset by a dollar of underperformance from the others."
But according to this column: "Every time an investor makes a profitable trade, another investor must take the opposite side and incur an equal loss."
So when I sold you my GOOG two months ago (at 920 for an 18% gain over my purchase price of 780 a year ago) to get cash for living expenses, you must have incurred an equal 18% loss? Perhaps you incurred that 18% loss by holding the stock until now (it's currently trading at 977, not bad for two months)?
A column that makes one's head hurt if one reads it carefully.
Comments
Winning in the investment universe can be a daunting task. Yesterday's superior active fund managers often fail to repeat their successes in today's marketplace. The data is overwhelming in the negative direction. Only a little over 10% of these super-pickers retain their outstanding performance in the next measurement period. Persistent outperformance is a challenge and identifying that small, elite group in advance is an even more formidable challenge.
These are not new findings. Vanguard has been making that point for a long time now. Here is a Link to yet another Vanguard study that demonstrates the futility of various candidate signal parameters to reliably project future performance:
https://personal.vanguard.com/pdf/s338.pdf
This report is relatively recent and is well documented. Please give it a read. Here is a nice summary paragraph that I lifted from the reference:
"The current level of a blend of valuation metrics contributes to Vanguard’s generally positive outlook for the stock market over the next ten years (2012–2022). But the fact that even P/Es—the strongest of the indicators we examined—leave a large portion of returns unexplained underscores our belief that expected stock returns are best stated in a probabilistic framework, not as a “point forecast,” and should not be forecast over short horizons."
In an uncertain world, probability based analyses are useful when projecting the range of likely investment outcomes. Keeping an accessible reserve that permits you to survive a two or three year equity market downturn is a prudent strategy. Note that Vanguard trusts long term projections more than short horizon guesstimates. So do I.
Best Wishes
"Our [Vanguard's] research shows that long-term, active outperformance is possible. But choosing recent high performers in inefficient markets isn’t the answer. Instead, we found that low-cost funds run by talented managers can achieve long-term outperformance for patient investors. Patience is key, because returns will be inconsistent even for successful managers."
One can increase one's chance for success by keeping a close eye on costs. Or as stated in that cited Vanguard research: "we [Vanguard] find that investors’ odds can be improved through the use of low-cost mutual funds."
I would have found the column more interesting had it given return data gross of expenses (i.e. before subtracting out ERs), and had it done a regression analysis against turnover. (I recently cited some source saying that at least half the cost of owning the typical fund is due to turnover.)
I agree with Lewis that this is old news. But more than that, regarding the column itself, I'm left asking where's the beef? At best 11 paragraphs of substance that come across as reheated excerpts of Vanguard papers, loosely assembled and not well understood.
For example, the column misused Sharpe's observation that the market is a zero sum game. Here's how Vanguard correctly explained that in a whitepaper: "in any market, the holdings of all participants aggregate to form that market. Therefore, every dollar of outperformance achieved by one investor in the market is offset by a dollar of underperformance from the others."
But according to this column: "Every time an investor makes a profitable trade, another investor must take the opposite side and incur an equal loss."
So when I sold you my GOOG two months ago (at 920 for an 18% gain over my purchase price of 780 a year ago) to get cash for living expenses, you must have incurred an equal 18% loss? Perhaps you incurred that 18% loss by holding the stock until now (it's currently trading at 977, not bad for two months)?
A column that makes one's head hurt if one reads it carefully.