I'm starting to warm up to Index Funds

[azanon]

Ive been supporting and hold a few actively managed funds, but as time goes on, and I continue to read strong arguments against them, such as by Scott Burns, i'm starting to think maybe these just aren't logical.

Case and point; I chose USAA Aggressive Growth for one of my wife's IRAs about 3-4 years ago because it "only" had a 1% management fee and was going to be managed by the supposed superstar fund manager Thomas Marsico. This was the guy who had made Janus Twenty famous with superstar returns in the late 80s and 90s. I figured how can i go wrong with this guy?

Anyway, the returns have been lackluster at best, and with 27K in this fund, i'm thinking.... hmm, i'm paying him 1% of 27K a year to not even match an S&P 500 Index fund. The more I think about it, with that kind of fee, I should literally be able to insist on him beating the index practically every year.

My question is, why are the management fees so dang high? If this guy/the fund company is paid 1% of the market cap of the fund, that's an absolute fortune just for one guy to buy and sell 40-60 hrs a day. It should be more like maybe 0.1 or 0.2% above an index fund cost, not 0.8% higher! I might still like active management, but dang it seems like they overcharge for the service.

So, i've finally warmed up to index, and I think i'm going to begin a shift to all index. I'm going to start with a rollover of USAA AG to some vanguard fund.

Fortunately, and luckily, i do get the benefit of the TSP funds where i have approximately half of my total IRA holdings, and the average TSP fund only cost 5 basis points.

[justin]

If you are comfortable with having a fund that will perform in the top 20-30% of all funds in its category over the long haul, then index funds are for you.

[FinanceDude]

Quote:

Originally Posted by justin If you are comfortable with having a fund that will perform in the top 20-30% of all funds in its category over the long haul, then index funds are for you.

Define long haul............

[justin]

Quote:

Originally Posted by FinanceDude Define long haul.........

3+ years? The odds of being in the top 20-30% increase the longer out you go.

I don't mean to be antagonistic, but do you disagree with my statement that "If you are comfortable with having a fund that will perform in the top 20-30% of all funds in its category over the long haul, then index funds are for you"?

If you are shooting to outperform the market over the long haul, then index funds are not for you. But good luck finding a fund that will remain the top 20-30%.

[FinanceDude]

Quote:

Originally Posted by justin 3+ years? The odds of being in the top 20-30% increase the longer out you go. I don't mean to be antagonistic, but do you disagree with my statement that "If you are comfortable with having a fund that will perform in the top 20-30% of all funds in its category over the long haul, then index funds are for you"? If you are shooting to outperform the market over the long haul, then index funds are not for you. But good luck finding a fund that will remain the top 20-30%.

I think your statement is a blanket one, just wondering where you got your info? BTW, morningstar doesn't count............

[justin]

Quote:

Originally Posted by FinanceDude I think your statement is a blanket one, just wondering where you got your info? BTW, morningstar doesn't count............

The only sources that I can think of off the top of my head are Bernstein's books - 4 pillars and Intelligent Asset Allocator (pgs 95-99), Bogle's Common Sense on Mutual funds. I've seen studies elsewhere saying the same thing.

I think some of those other sources were in the Journal of financial planning - can't point to anything specific off the cuff though.

Of course my statement is a blanket statement. But an accurate one I believe. Look at the costs incurred by active management - trading commissions, bid/ask spreads, market impact costs, plus expense ratio, maybe throw in a 12b-1 fee.

So do you agree with my blanket statement?

[FinanceDude]

Quote:

Originally Posted by justin The only sources that I can think of off the top of my head are Bernstein's books - 4 pillars and Intelligent Asset Allocator (pgs 95-99), Bogle's Common Sense on Mutual funds. I've seen studies elsewhere saying the same thing. I think some of those other sources were in the Journal of financial planning - can't point to anything specific off the cuff though. Of course my statement is a blanket statement. But an accurate one I believe. Look at the costs incurred by active management - trading commissions, bid/ask spreads, market impact costs, plus expense ratio, maybe throw in a 12b-1 fee. So do you agree with my blanket statement?

No, I don't like blanket statements.......... I will agree that there are plenty of mutual fund companies that IMO should be out of business. That being said, there are a few that I think do things the right way, like American Funds and Franklin Templeton. I realize these are load funds (the horror), but their business model works in a number of ways. As an example, American Funds:

Other than their international funds, the average expense ratio is under 65 basis points a year, and that INCLUDES the 12b-1 fee. Their average turnover in their funds is around 22% a year. Their average holding period for a stock is 5 years. Their managers are paid base salaries, but only get bonuses when they beat a FIVE-YEAR rolling average against the index, etc, etc.

So, there are alternatives to consider. I will tell you that my American Funds portfolio has smoked my SPYDER ETF by a large margin the past 7 years, as I should expect it to.

And yes, I am willing to pay more than 18 bp a year to beat the index by a substantial margin.........

How about a shawl instead of a blanket? Maybe a light jacket??

[Nords]

Quote:

Originally Posted by FinanceDude And yes, I am willing to pay more than 18 bp a year to beat the index by a substantial margin.........

Everyone's happy to do that!

We object to the extra fees to lag the index by a substantial margin. I don't notice any mutual-fund companies offering money-back guarantees...

[Mwsinron]

Index funds are your friends...

[azanon]

Quote:

Originally Posted by Nords We object to the extra fees to lag the index by a substantial margin. I don't notice any mutual-fund companies offering money-back guarantees...

Great point Nords, and this captures the way I feel. I'm thinking, ok (insert active fund manager), i'll pay you the 1% or whatever, but will you guarantee me that I will get what i pay for, which is better performance than a fund on autopilot. If they cant guarantee this, then where's the logic in doing it? It conjurs up images of a bird in the hand vs. two in the bush. ..... Or saying "no deal" with the board shows $200K and $1 Million and the bank's offering you $650K. I say deal, Howie!

Azanon

[eridanus]

Quote:

Originally Posted by justin 3+ years? The odds of being in the top 20-30% increase the longer out you go.

15 years? That leaves us...Legg Mason. ONE fund.

[Gone4Good]

Quote:

Originally Posted by eridanus 15 years? That leaves us...Legg Mason. ONE fund.

Check their performance this year.

[FinanceDude]

Quote:

Originally Posted by Nords Everyone's happy to do that! We object to the extra fees to lag the index by a substantial margin. I don't notice any mutual-fund companies offering money-back guarantees...

I don't notice Vanguard offering them either............

I don't think the financial markets can be guaranteed...........

[Nords]

Quote:

Originally Posted by eridanus 15 years? That leaves us...Legg Mason. ONE fund.

Another equivalent to a large mutual fund with a great long-term record would be Berkshire Hathaway.

[Gone4Good]

Quote:

Originally Posted by Azanon My question is, why are the management fees so dang high? If this guy/the fund company is paid 1% of the market cap of the fund, that's an absolute fortune just for one guy to buy and sell 40-60 hrs a day.

The management fees are so high because . . . people are still willing to pay them!

Hope springs eternal! What's 80bp per year when you have the opportunity to massively outperform the indexes? That's the thinking, anyway. The fact that almost nobody has been able to accomplish that feat for any significant length of time is an inconvenient detail that gets in the way of the hopes and dreams of nearly every investor. Who, after all, is content to be just average?

But the higher fee is just one contributor to the inferiority of actively managed funds. The other is taxes. That fancy portfolio manager with all his highly paid analysts don't just run up the fees. They are paid those fat salaries to buy the next big thing and sell the last big thing. But in their pursuit of "alpha" they inevitably end up churning the portfolio and dredging up taxable gains that index investors largely avoid.

[FinanceDude]

Quote:

Originally Posted by Nords Another equivalent to a large mutual fund with a great long-term record would be Berkshire Hathaway.

Come on, noone on here would DARE own Berkshire, it's NOT an index fund, and is concentrated in only a few stocks besides.............

Brewer, you always crack me up............

[Mwsinron]

Quote:

Originally Posted by FinanceDude Come on, noone on here would DARE own Berkshire, it's NOT an index fund, and is concentrated in only a few stocks besides............. Brewer, you always crack me up............

Im fairly sure someone here owns BH.

[brewer12345]

Quote:

Originally Posted by FinanceDude Come on, noone on here would DARE own Berkshire, it's NOT an index fund, and is concentrated in only a few stocks besides............. Brewer, you always crack me up............

Uh, maybe so, but you quoted Nords, not me.

[Gone4Good]

Quote:

Originally Posted by FinanceDude I don't notice Vanguard offering them either............ I don't think the financial markets can be guaranteed...........

Vanguard index funds seem to do exactly what they say they are going to do, which is track the index less the management fee. Not sure why I'd be looking for a refund from Vanguard Index funds for giving me exactly what I’m paying for. Now if they failed to track the index, that is a different story.

But if I pay a premium fee to an active manager who surely touts some market beating historic performance in his advertisements (not withstanding small print disclosures about how past performance, blah, blah, blah), a money back guarantee of the premium fee seems completely reasonable when the manager fails to achieve premium returns - especially since his advertisements are often designed to imply the manager is capable of delivering premium returns. If you fail to deliver what you say you can, a refund should be in order.

[FinanceDude]

Quote:

Originally Posted by brewer12345 Uh, maybe so, but you quoted Nords, not me.

Oops.......sorry...........you and NORDS and a few others crack me up..........