Comments on: So when does active management beat passive investing?

By: Weakonomics Links: Leverage with Facebook | Weakonomi¢s

Weakonomics Links: Leverage with Facebook | Weakonomi¢s — Fri, 26 Mar 2010 13:56:37 +0000

[...] Pop Economics asks when passive mutual funds lose to active ones? We normally think index funds (which are passive) are always the way to go. But is that true? [...]

By: The Financial Savvy College Student

The Financial Savvy College Student — Wed, 24 Mar 2010 00:21:49 +0000

I admire your approach to writing this article. I feel it is easy for us to advocate the investing method we personally utilize but you provided a very balanced analysis. I look forward to reading your blog in the future.

By: Carnival Of Personal Finance #249: Who’s Awesomest? Pirates Vs Ninjas Vs Nuns Vs Robots Vs Real Estate Agents Vs Zombies - Amateur Asset Allocator

Mon, 22 Mar 2010 11:03:33 +0000

[...] So when does active management beat passive investing? by Pop Economics. It doesn’t! [...]

By: patrick

patrick — Mon, 22 Mar 2010 05:46:53 +0000

When you refer to actively managed funds, are you referring to mutual funds which actively pick stocks in order to choose those which will out perform the market, but which are still close to 100% invested at all times?

I’m curious how that would compare to tactical active money management where the money managers have the ability to go to all cash if they so choose. The tactical managers I’ve seen have far outperformed the market indexes over the past 10 years….

If you are required to be 100% invested at all times (or fairly close) then it becomes much harder to beat the market averages, no matter how good of a stock picker you are.

By: Pop

Pop — Sun, 21 Mar 2010 03:46:41 +0000

Thanks for the comment. Actually one of the great things about the S&P study is that it accounts for survivorship bias. If you download it, you’ll see their explanation in the first few pages. And for those unsure of what we’re talking about…survivorship bias is a common mistake researchers make when studying things like mutual funds. If you focus on the funds that exist now, you miss all those funds that closed shop or merged with others. So, your study pool will naturally make actively managed mutual funds look better.

But as I said, that doesn’t seem to be a problem with the S&P study.

By: Bender

Bender — Sun, 21 Mar 2010 03:33:18 +0000

Two words – survivor bias.

Data mining something out of morningstar is freaking meaningless.

By: Pop

Pop — Fri, 19 Mar 2010 18:59:57 +0000

@YeahBut: Thanks for commenting. Yeah, that’s a good point. I guess I’m not convinced that a 10-year track record is a sound enough measure for me (emphasis on me) to have faith in an active manager. After all, a manager could achieve that by having one, spectacular year within those 10. Similarly, he can destroy it by having one miserable year. (See Bill Miller: http://bit.ly/MXSz2.)

However, I don’t think you should be made to feel stupid for picking an active fund. On average, your active funds will perform, well, at about the market average. So what you’re losing by taking a risk on an active manager is the difference in expense ratios between your active manager and an index fund. Fairholme’s 1.01% ratio, for example, is costing you about 0.7% above what a large-cap index would cost. Not great, but it’s not like someone could argue you’re making a gigantic mistake.

By: YeahBut

YeahBut — Fri, 19 Mar 2010 18:31:19 +0000

This argument is a good one for novice investors or those who aren’t interested in doing any research and just want to keep their costs down while getting a decent return. However I always find these sweeping statements about “active managers” as if they are one monolithic force a bit misleading. I don’t care what the average active manager does or what most of them do. I just care about what the ones who run the handful of funds I own do. Doing even a minor amount of research on Morningstar or Lipper will reveal dozens of managers who over the past ten years have killed their respective indexes by large margins, from the very conservative (Oakmark Equity & Income, annualized return of over 9% in the last ten years) to the more aggressive like Fairholme or Ivy Asset Strategy. Of course they won’t be their benchmarks every single year, but if they’ve outperformed the market by significant margins 8 out of 10 years then I can afford for them to screw up once in awhile. I understand there is a degree of luck to it, but when you see a manager who has returned double digits over the past ten years which were supposedly a “lost decade” for US stocks, it makes active management very compelling. Again, it’s not for everyone, but I’m tired of being made to feel stupid for using actively managed funds when my returns net of expenses are far superior than any conceivable mix of index funds I would have used instead.

By: UnderstatementJones

UnderstatementJones — Fri, 19 Mar 2010 14:04:37 +0000

I generally go with index funds, on the weak-EMH based theory that the markets are better aggregators of information than I am. The exception is a green index, where I think the market systematically makes mistaken judgments about policy odds.

What’s interesting to me is that passive investing depends on being a minority position. Imagine if everyone in the market invested in nothing but index funds. The markets would stand still. As more and more investors give up on picking stocks, more and more twenty-dollar bills are left on the ground because “someone must have picked it up already.” And at some point, managers should be able to selectively take advantage of an inefficient market and reliably beat index funds.

For the moment, though, I don’t see that as being a huge problem. A picker’s market is one in which most people don’t bother to pick, and that ain’t around right now.

By: The Biz of Life

The Biz of Life — Fri, 19 Mar 2010 03:55:44 +0000

By the time you collect enough data to prove any investing theory you’ll be dead. I’m a believer that value investing yields superior results to growth investing based upon my experience and personal observation. But it is an act of faith, and an attempt to rationalize a process that is part science and part art. Indexers and Efficient Market people try to tilt the balance to the scientific side and prove the art side is just luck or chance. They may be right, but I do believe there may be that 5% or so of managers who can be the market over the long run. The trick is finding them before everyone floods their funds with cash driving down the performance toward the mean.