Here's a statement of the obvious: The opinions expressed here are those of the participants, not those of the Mutual Fund Observer. We cannot vouch for the accuracy or appropriateness of any of it, though we do encourage civility and good humor.
Active mutual fund management is certainly not dead, and will never die.
Why? Active managers are experiencing some tough years, investors are abandoning them in droves, and academic/industry research paints a dismal picture. The simple answer is human hubris. Nobody readily accepts average performance; almost all of us reside in Lake Wobegon. Or at least we want to believe that’s true.
Outcomes are the sum of skill and luck components. That’s not my model. Michael Mauboussin advocates this model and writes extensively about it. He uses numerous sports analyses to illustrate his findings. His overarching conclusion is that overall skill levels are increasing to a point where performance differences are small. That means that outcomes are more dependent upon luck factors since skill neutralizes itself.
Mauboussin uses ballplayer and superstar Ted Williams as a prime example. Williams was the last player to hit 400 for an entire season. He believes that record will stand forever because the skill normal distribution has become very spike-like in character; its standard deviation has decreased substantially over the past decades.
Whereas, in Williams’ playing days a plus 4-sigma performance was needed to reach a 400 batting average level, with today’s crunched higher skills, an unlikely 6-sigma performance is required to achieve that lofty 400 hitting zone.
Similarly, the professional investors today would likely outperform those from yesteryear. Now professionals are better trained, better informed, have huge staffs, and super computers. All professionals benefit from these pluses about equally, and any resultant perceived advantage tends to cancel each other out.
Seeking Alpha is a more challenging task given the competency of the players. It’s a tough game, but animal spirits keep many players in it. “Average” is just not the American way. Note that today 70% of the trading is done by professionals. Where does that place us individual investors within the skill-luck spectrum tradeoff in a relative sense? We know more, but so do these pros.
I mention Mauboussin because he has written many books that touch on this subject. His “The Success Equation” is devoted to this topic. I have not read it. But I have read a lengthy report that Mauboussin composed that formed the basis for his book. The title of the article is “Untangling Skill and Luck”. Here is a Link to that work:
Not giving up my Active managers for index funds, sorry I can't afford it
Tampabay,
I have a good friend with the same problem. She bought a few good actively managed funds in mid 2009. However, the funds have underperformed their benchmarks for the past few years, but because of the unrealized capital gains, she too can't afford to sell.
In retrospect, she would have been better off with a total stock market index fund and concentrated on her tennis game.
Sorry to learn that your situation is such that you have severely constrained options relative to active/passive fund decision-making and changes.
Unless you are an especially adroit mutual fund manager screener, the price that you are likely to pay for assembling an actively managed fund portfolio rather than an Index dominated portfolio hovers around 1% annually.
The 1% penalty is not a random number that I invented. It is a general average that I gleaned from the Monte Carlo studies reported recently by Rick Ferri. I have referenced this body of work earlier, but it is worthwhile to revisit it now. The title of the report is “The Case for Index Fund Portfolios”. Here is a Link to it:
The Ferri Whitepaper is based upon a series of Monte Carlo-based simulations that used real world fund data for various recent timeframes. Each Monte Carlo separate case used 5,000 random fund selections to construct a portfolio. Actively managed fund portfolio performance was measured against equivalent passively managed Index products.
The Monte Carlo analyses were completed for 3-fund, 5-fund, and 10-fund portfolios. Different timeframe data were also explored.
The actual numbers changed for each simulation, and are nicely summarized in the referenced paper. Especially meaningful performance summarizes can be found in Figure 1 and in Table 6. You should check these out. Specific numbers change as the number of funds dimension and the timeframe dimension changes.
In these various cases, Index portfolios outdistanced actively managed portfolios in 82% to 90% on the instances. In those cases when the active funds outperformed the Index portfolios, the excess positive returns where one-third to one-half the negative excess returns in the failed instances.
As a very general summary, a portfolio constructed with actively managed funds will deliver approximately 1% less return than its Index equivalent. That’s the sad news.
The good news is that the active managers do recover some of their operating costs with perhaps a mix of superior stock selection and/or effective market timing of entry/exit points. Although persistent performance is an issue, a small cohort of active managers do deliver positive excess returns (Alpha) over complete market cycles. That’s the real acid test.
I wish you success in identifying this small cohort. Low cost is one indicator even endorsed by Vanguard. Michael Mauboussin has also stated that fund managers seem to generate peak outcomes in their early 40s. Perhaps an age criteria, like centered on 43 years old, would aid the search process.
MGL:Here Mister Monte Carlo," I read it so it must be true" Heres what I pay some of the BEST managers & Some ETFs in the Business: 0.10%,0.14%0.14%, 0.15%,0.17%,0.18%,0.23%,0.25%,0.26%,0.35% 0.38%,0,50%,0.71%,0.74% my average cost per fund/ETF 0.37% Far from 1% My net (after cost) return ytd +10.56% Total stock makt.index+9.24 and I wouldn't trade my managers for any INDEX you hold, so keep reading your "real world Data" about costs.....
What MJG brought up are averages. There are always exceptions to those and your situation is one of them.
I believe a large number of investors start out with low cost index funds but as their portfolios grow and reach a certain size, they take a portion of that portfolio and invest it with active management.
There are good results on both sides of the story. One cannot paint a broad brush.
That's EXACTLY my point! guys like Monte Carlo read articles and believe them as gospel, then they want to pass it on as GOOD Advice, I think its misleading to dangerous
Well I can vouch for the fact that active management is certainly not dead in the minds of Morgan Stanley CFP's. I recently met with one with respect toward management of an inheritance and the portfolio design he constructed consisted of nothing but "team" managed funds. To be honest it was an impressive listing and I hadn't heard of, or considered, half of the suggested funds.
I met with the guy because he was the advisor to my parents from whom the inheritance originates. I've always managed my own portfolio of half individual equities and half mutual funds. My ten year returns are 6 point something on the fund side and 19 point something on the individual stock side. Truly I suck at mutual fund selection.
Expense Ratio of Similarly Weighted Hypothetical Portfolio (%) 1.21
The mutual funds in your portfolio tend to have very low expense ratios. This is good, because expense ratios have been shown to be a major factor in mutual-fund performance over the long term.
I always like to provide backing to statements...tb
Heres what I pay some of the BEST managers & Some ETFs in the Business: 0.10%,0.14%0.14%, 0.15%,0.17%,0.18%,0.23%,0.25%,0.26%,0.35% 0.38%,0,50%,0.71%,0.74% my average cost per fund/ETF 0.37% Far from 1% My net (after cost) return ytd +10.56% Total stock makt.index+9.24 and I wouldn't trade my managers for any INDEX you hold, so keep reading your "real world Data" about costs.....
Just curious. You can certainly get active Vanguard products in the .25 bp range, but the other relatively cheap active families I know (D&C, Mairs and Power, Primecap, T. Rowe) are all in the .5-.75 bp range.
The really low ones there are ETFs, I assume? And if so, aren't they indices?
Actually ETF are not "true index' investments, most have selection committees and set % of certain holdings as they want, they certainly have lower fees and no commissions, so must be considered as cost competition to True blanket index funds. I only hold two so they have little affect on my total costs
Thank you for reading my posts. I’m pleased that you are so happy with your current portfolio positions.
I too am very much dedicated to portfolio cost control. Together, we’re in Bogle’s camp in that regard; costs not only matter, they matter greatly. Congratulations on the excellent job you report for your personal portfolio’s low expenses. I have not been that industrious.
Various sources report that the average expense ratio for mutual funds range between 1.1% and 1.5% annually, without specifying how that average was calculated. I did not expect the range of that number. Like you, I like to reference the most reliable values I can access. So I went to ICI’s “2014 Investment Company Fact Book”.
From that reference, Figure 5.6 presents the “Expense Ratios of Actively Managed and Index Funds” from 2000 to 2013. The costs, which are asset-weighted average values, have been declining over that time period. Most recently, the average actively managed equity fund costs 89 basis points. Index equity funds cost 12 basis points. That 77 basis point differential is the hurdle that active management must overcome. A huge number of these funds trip over that hurdle.
I really try to only reference studies that have survived peer review. Therefore, I tend to emphasize academic studies and carefully selected industry work. For example, the cited Rick Ferri Whitepaper was the “Winner of the S&P Dow Jones Indices Third Annual SPIVA Award". It is an impressive Monte Carlo-based analysis. My opinion is that more work needs to be done using that tool.
Given the rather large number of low Expense Ratios that you cited (presumably not your complete portfolio), I was surprised by the comparison of your portfolio performance against the Total Stock Market Index. I would suspect that your portfolio is more nuanced, more complex than a single benchmark standard. Given that you are an informed and experienced investor, I anticipate that your holdings would benefit from a diverse array of investment categories: a ladder of bonds, international and emerging market holdings, small Cap value funds, some real estate positions, perhaps commodity and gold products.
If in fact your portfolio reflects fully broad diversification, then choosing to compare outcomes against a single market equity Index is an imprecise and loose standard. My portfolio is broadly diversified, so I deploy a mix of benchmark Indices that more closely resemble my actual portfolio allocations.
By the way, at the present time, the equity portion of my portfolio is divided about evenly between actively managed and Index holdings.
Again I was surprised by your quoting of portfolio performance year-to-date. I’m pleased that you are satisfied with its current superior output, but that is a meaningless comparison when discussing long-term investment philosophy and guidelines. Even the best hitter in baseball can go 0 hits for 5 at-bats today while a poor hitter can register 2 hits for 5 at-bats. Longer term performance records need to be examined.
Random short term outcomes are not truly indicative of skilful active fund management. I hope your actively managed funds continue to deliver superior results over a statistically meaningful time horizon that is compatible with your goals. Beware of a reversion-to-the-mean market pull. That happens frequently with active fund management. Index funds avoid that risk factor. Seeking positive Alpha introduces the risk of market underperformance.
You get to choose. I have never made any fund recommendation on MFO.
Active fund management is needed for market price discovery. I’ll close with the comment that opened my contributions to this discussion: I believe that “Active mutual fund management is certainly not dead, and will never die.” Wow, I’m quoting myself!
Thank you for reading my posts. I’m pleased that you are so happy with your current portfolio positions.
Given the rather large number of low Expense Ratios that you cited (presumably not your complete portfolio), I was surprised by the comparison of your portfolio performance against the Total Stock Market Index. I would suspect that your portfolio is more nuanced, more complex than a single benchmark standard. Given that you are an informed and experienced investor, I anticipate that your holdings would benefit from a diverse array of investment categories: a ladder of bonds, international and emerging market holdings, small Cap value funds, some real estate positions, perhaps commodity and gold products.
Tampabay,
As usual, MJG brings up some excellent points.
Would you be so kind to share your portfolio with us?
"That's EXACTLY my point! guys like Monte Carlo read articles and believe them as gospel, then they want to pass it on as GOOD Advice, I think its misleading to dangerous "
I want to make it clear that I am not referring to MJG's viewpoint with my comment but rather the question as a whole. I do not know why you are making this personal?
MJG brings a wealth of knowledge to this forum and I enjoy reading his comments.
"Sorry to learn that your situation is such that you have severely constrained options relative to active/passive fund decision-making and changes."
Who made it "personal"? I don't care what HIS opinions are on index funds or how he handles investment costs, but when he directs his nonsensical 2nd hand information in my direction, I feel obligated to give him the "Facts"! His GENERAL comments on his fact finding missions would be useful sometimes...I guess......
"I don't care what HIS opinions are on index funds or how he handles investment costs, but when he directs his nonsensical 2nd hand information in my direction, I feel obligated to give him the "Facts"!"
Tampabay,
1. Being you do not care what MJG has to offer, and it happens to be a whole bunch, why are you reading his posts?
2. Being you do not care, why are you even on MFO? To talk about yourself?
3. "nonsensical 2nd hand information"? Huh?!?!
4. " I feel obligated to give him the "Facts"!" Who are you?!?!
5. Regarding your comment to me, no, I do not know your portfolio. From another board, which you are persona non grata, I know your " Stock Sector| Holdings Detail Vs. the S&P (per Morningstar)". I asked you "Would you be so kind to share your portfolio with us?" Possibly you should care what MJG says, so you can learn the difference.
Mona, nice to have you following me as will most of the other Vanguard groupies if they where as smart as you......"Facts mam 0nly the facts" from what old police show?, still true today!
Comments
Active mutual fund management is certainly not dead, and will never die.
Why? Active managers are experiencing some tough years, investors are abandoning them in droves, and academic/industry research paints a dismal picture. The simple answer is human hubris. Nobody readily accepts average performance; almost all of us reside in Lake Wobegon. Or at least we want to believe that’s true.
Outcomes are the sum of skill and luck components. That’s not my model. Michael Mauboussin advocates this model and writes extensively about it. He uses numerous sports analyses to illustrate his findings. His overarching conclusion is that overall skill levels are increasing to a point where performance differences are small. That means that outcomes are more dependent upon luck factors since skill neutralizes itself.
Mauboussin uses ballplayer and superstar Ted Williams as a prime example. Williams was the last player to hit 400 for an entire season. He believes that record will stand forever because the skill normal distribution has become very spike-like in character; its standard deviation has decreased substantially over the past decades.
Whereas, in Williams’ playing days a plus 4-sigma performance was needed to reach a 400 batting average level, with today’s crunched higher skills, an unlikely 6-sigma performance is required to achieve that lofty 400 hitting zone.
Similarly, the professional investors today would likely outperform those from yesteryear. Now professionals are better trained, better informed, have huge staffs, and super computers. All professionals benefit from these pluses about equally, and any resultant perceived advantage tends to cancel each other out.
Seeking Alpha is a more challenging task given the competency of the players. It’s a tough game, but animal spirits keep many players in it. “Average” is just not the American way. Note that today 70% of the trading is done by professionals. Where does that place us individual investors within the skill-luck spectrum tradeoff in a relative sense? We know more, but so do these pros.
I mention Mauboussin because he has written many books that touch on this subject. His “The Success Equation” is devoted to this topic. I have not read it. But I have read a lengthy report that Mauboussin composed that formed the basis for his book. The title of the article is “Untangling Skill and Luck”. Here is a Link to that work:
http://vserver1.cscs.lsa.umich.edu/~spage/ONLINECOURSE/R15SkillandLuck.pdf
It’s a very nicely written report. It contains many investment lessons that could benefit you guys. I recommend you download and absorb it.
Best Regards.
Tampabay,
I have a good friend with the same problem. She bought a few good actively managed funds in mid 2009. However, the funds have underperformed their benchmarks for the past few years, but because of the unrealized capital gains, she too can't afford to sell.
In retrospect, she would have been better off with a total stock market index fund and concentrated on her tennis game.
Mona
Sorry to learn that your situation is such that you have severely constrained options relative to active/passive fund decision-making and changes.
Unless you are an especially adroit mutual fund manager screener, the price that you are likely to pay for assembling an actively managed fund portfolio rather than an Index dominated portfolio hovers around 1% annually.
The 1% penalty is not a random number that I invented. It is a general average that I gleaned from the Monte Carlo studies reported recently by Rick Ferri. I have referenced this body of work earlier, but it is worthwhile to revisit it now. The title of the report is “The Case for Index Fund Portfolios”. Here is a Link to it:
http://www.rickferri.com/WhitePaper.pdf
The Ferri Whitepaper is based upon a series of Monte Carlo-based simulations that used real world fund data for various recent timeframes. Each Monte Carlo separate case used 5,000 random fund selections to construct a portfolio. Actively managed fund portfolio performance was measured against equivalent passively managed Index products.
The Monte Carlo analyses were completed for 3-fund, 5-fund, and 10-fund portfolios. Different timeframe data were also explored.
The actual numbers changed for each simulation, and are nicely summarized in the referenced paper. Especially meaningful performance summarizes can be found in Figure 1 and in Table 6. You should check these out. Specific numbers change as the number of funds dimension and the timeframe dimension changes.
In these various cases, Index portfolios outdistanced actively managed portfolios in 82% to 90% on the instances. In those cases when the active funds outperformed the Index portfolios, the excess positive returns where one-third to one-half the negative excess returns in the failed instances.
As a very general summary, a portfolio constructed with actively managed funds will deliver approximately 1% less return than its Index equivalent. That’s the sad news.
The good news is that the active managers do recover some of their operating costs with perhaps a mix of superior stock selection and/or effective market timing of entry/exit points. Although persistent performance is an issue, a small cohort of active managers do deliver positive excess returns (Alpha) over complete market cycles. That’s the real acid test.
I wish you success in identifying this small cohort. Low cost is one indicator even endorsed by Vanguard. Michael Mauboussin has also stated that fund managers seem to generate peak outcomes in their early 40s. Perhaps an age criteria, like centered on 43 years old, would aid the search process.
Good Luck and Best Wishes.
MGL:Here Mister Monte Carlo," I read it so it must be true"
Heres what I pay some of the BEST managers & Some ETFs in the Business:
0.10%,0.14%0.14%, 0.15%,0.17%,0.18%,0.23%,0.25%,0.26%,0.35% 0.38%,0,50%,0.71%,0.74%
my average cost per fund/ETF 0.37% Far from 1%
My net (after cost) return ytd +10.56%
Total stock makt.index+9.24
and I wouldn't trade my managers for any INDEX you hold, so keep reading your "real world Data" about costs.....
What MJG brought up are averages. There are always exceptions to those and your situation is one of them.
I believe a large number of investors start out with low cost index funds but as their portfolios grow and reach a certain size, they take a portion of that portfolio and invest it with active management.
There are good results on both sides of the story. One cannot paint a broad brush.
I met with the guy because he was the advisor to my parents from whom the inheritance originates. I've always managed my own portfolio of half individual equities and half mutual funds. My ten year returns are 6 point something on the fund side and 19 point something on the individual stock side. Truly I suck at mutual fund selection.
Portfolio Manager : morningstar
Tampabay
Fees & Expenses | Holdings Detail
Average Mutual Fund Expense Ratio (%)
0.37
Expense Ratio of Similarly Weighted
Hypothetical Portfolio (%) 1.21
The mutual funds in your portfolio tend to have very low expense ratios. This is good, because expense ratios have been shown to be a major factor in mutual-fund performance over the long term.
I always like to provide backing to statements...tb
The really low ones there are ETFs, I assume? And if so, aren't they indices?
I only hold two so they have little affect on my total costs
Thank you for reading my posts. I’m pleased that you are so happy with your current portfolio positions.
I too am very much dedicated to portfolio cost control. Together, we’re in Bogle’s camp in that regard; costs not only matter, they matter greatly. Congratulations on the excellent job you report for your personal portfolio’s low expenses. I have not been that industrious.
Various sources report that the average expense ratio for mutual funds range between 1.1% and 1.5% annually, without specifying how that average was calculated. I did not expect the range of that number. Like you, I like to reference the most reliable values I can access. So I went to ICI’s “2014 Investment Company Fact Book”.
From that reference, Figure 5.6 presents the “Expense Ratios of Actively Managed and Index Funds” from 2000 to 2013. The costs, which are asset-weighted average values, have been declining over that time period. Most recently, the average actively managed equity fund costs 89 basis points. Index equity funds cost 12 basis points. That 77 basis point differential is the hurdle that active management must overcome. A huge number of these funds trip over that hurdle.
I really try to only reference studies that have survived peer review. Therefore, I tend to emphasize academic studies and carefully selected industry work. For example, the cited Rick Ferri Whitepaper was the “Winner of the S&P Dow Jones Indices Third Annual SPIVA Award". It is an impressive Monte Carlo-based analysis. My opinion is that more work needs to be done using that tool.
Given the rather large number of low Expense Ratios that you cited (presumably not your complete portfolio), I was surprised by the comparison of your portfolio performance against the Total Stock Market Index. I would suspect that your portfolio is more nuanced, more complex than a single benchmark standard. Given that you are an informed and experienced investor, I anticipate that your holdings would benefit from a diverse array of investment categories: a ladder of bonds, international and emerging market holdings, small Cap value funds, some real estate positions, perhaps commodity and gold products.
If in fact your portfolio reflects fully broad diversification, then choosing to compare outcomes against a single market equity Index is an imprecise and loose standard. My portfolio is broadly diversified, so I deploy a mix of benchmark Indices that more closely resemble my actual portfolio allocations.
By the way, at the present time, the equity portion of my portfolio is divided about evenly between actively managed and Index holdings.
Again I was surprised by your quoting of portfolio performance year-to-date. I’m pleased that you are satisfied with its current superior output, but that is a meaningless comparison when discussing long-term investment philosophy and guidelines. Even the best hitter in baseball can go 0 hits for 5 at-bats today while a poor hitter can register 2 hits for 5 at-bats. Longer term performance records need to be examined.
Random short term outcomes are not truly indicative of skilful active fund management. I hope your actively managed funds continue to deliver superior results over a statistically meaningful time horizon that is compatible with your goals. Beware of a reversion-to-the-mean market pull. That happens frequently with active fund management. Index funds avoid that risk factor. Seeking positive Alpha introduces the risk of market underperformance.
You get to choose. I have never made any fund recommendation on MFO.
Active fund management is needed for market price discovery. I’ll close with the comment that opened my contributions to this discussion: I believe that “Active mutual fund management is certainly not dead, and will never die.” Wow, I’m quoting myself!
Best Wishes.
Tampabay,
As usual, MJG brings up some excellent points.
Would you be so kind to share your portfolio with us?
Mona
Portfolio Tampabay
(% of Stocks sector) vs S&P 500 (%)
Tampabay S&P
Cyclical 18.30 30.51
Basic Materials 0.98 3.36
Consumer Cyclical 9.47 10.42
Financial Services 7.81 14.76
Real Estate 0.04 1.97
Sensitive 23.83 43.02
Communication Services 11.52 3.98
Energy 2.66 10.39
Industrials 3.36 10.94
Technology 6.29 17.72
Defensive 57.87 26.47
Consumer Defensive 29.10 9.37
Healthcare 27.73 14.09
Utilities 1.04 3.01
No diversification there Baby ,"a diverse array" not really....tb
"That's EXACTLY my point! guys like Monte Carlo read articles and believe them as gospel, then they want to pass it on as GOOD Advice, I think its misleading to dangerous "
I want to make it clear that I am not referring to MJG's viewpoint with my comment but rather the question as a whole. I do not know why you are making this personal?
MJG brings a wealth of knowledge to this forum and I enjoy reading his comments.
Good luck with your "portfolio".
MJG
September 19 Flag
Hi Tampabay,
"Sorry to learn that your situation is such that you have severely constrained options relative to active/passive fund decision-making and changes."
Who made it "personal"? I don't care what HIS opinions are on index funds or how he handles investment costs, but when he directs his nonsensical 2nd hand information in my direction, I feel obligated to give him the "Facts"!
His GENERAL comments on his fact finding missions would be useful sometimes...I guess......
How would you handle it John Wayne?
Tampabay,
1. Being you do not care what MJG has to offer, and it happens to be a whole bunch, why are you reading his posts?
2. Being you do not care, why are you even on MFO? To talk about yourself?
3. "nonsensical 2nd hand information"? Huh?!?!
4. " I feel obligated to give him the "Facts"!" Who are you?!?!
5. Regarding your comment to me, no, I do not know your portfolio. From another board, which you are persona non grata, I know your " Stock Sector| Holdings Detail Vs. the S&P (per Morningstar)". I asked you "Would you be so kind to share your portfolio with us?" Possibly you should care what MJG says, so you can learn the difference.
Good luck with your "portfolio".
Mona