Active vs Index Funds

[SomedaySoon]

I know that the majority of investors on this (our) site prefer index fund investing over actively managed funds, but under the current situation, do you feel that analysts can better select stock portfolios that will perform better under these stressful conditions than the "overall" market ? At least safer ones ?

 

[Montecfo]

I know that the majority of investors on this (our) site prefer index fund investing over actively managed funds, but under the current situation, do you feel that analysts can better select stock portfolios that will perform better under these stressful conditions than the "overall" market ? At least safer ones ?

I agree with you.

 

[statsman]

I know that the majority of investors on this (our) site prefer index fund investing over actively managed funds, but under the current situation, do you feel that analysts can better select stock portfolios that will perform better under these stressful conditions than the "overall" market ? At least safer ones ?

Hard to say. I see DODIX (managed income fund) as one of the better ones. It typically performs better than Vanguard's Total Bond fund. Yet, in mid-2008 thru early-2009 plus the past month+, DODIX under-performed VBTLX, and it wasn't even close. DODIX is in my wife's 401(k) plan, and for the most part has done well for us since 2007. But during serious downturns in the stock markets, DODIX has been a disappointment. At the low point in 2020, VBTLX was down 2.25% YTD while DODIX was down 6%. For a fund you want to provide some stability during large drops in the stock markets, DODIX seems to show some of the pitfalls of actively managed funds.

 

[SomedaySoon]

I can't disagree that index investing have outperformed the actively managed funds over the last decade at least, but starting today, would you still prefer to put new funds into the "overall market" vs ones that analysis says should perform better in the next 6-12 months ?

 

[Jerry1]

I don’t know, but I’m interested in looking at some industry funds. I’d like to stay away from hospitality, cruise lines, entertainment and things that seem unlikely to do well near term. Then I’d like to weight a little higher in healthcare, work from home industries and other industries that should do better.

Statsman discusses a total income approach, but I’d consider a fund manager or two that just managed equities in this environment and looking out a few years. It does seem that one could do better than the market in total by focusing on the current situation. I don’t, however, believe that it can be done long term. I just think situations like this have potential to provide opportunities to manage the portfolio a little differently.

 

[Luck_Club]

Struggled with this and ran several experiments using managed accounts

Unfortunately,
I was able to truly test this down turn using managed accounts several of them, along with my own self managed investments:

Since 7/2017 I held 1 very conservatively (dividend income) managed account which is down 11.2% as of today.

Since January 30 of 2020 I opened up 3 other managed accounts with the following results:

the first is mostly preferred positions is down 14.1%
Another global focused account is down 29.3%
the 3rd which is basically a growth focused account is down 25%

My performance which is heavily oil based is down 27.6% since January of 2020.

So no they are not miracle makers. This market has no place to hide, mainly due to the index ETF investors who are cashing out.

It is worth noting, my portfolio was and still is generating 2.5X the cash flow as the combined managed accounts.

 

[WyomingLife]

I know that the majority of investors on this (our) site prefer index fund investing over actively managed funds, but under the current situation, do you feel that analysts can better select stock portfolios that will perform better under these stressful conditions than the "overall" market ? At least safer ones ?

The entire purpose of the "index fund approach" is to build a seaworthy ship that stays well afloat whether the tide is coming in or out.

Why would one change strategies -- or man the lifeboats -- merely because the tide is going out?

But if you want to pay higher fees -- and in a declining market, no less -- in the hope of hiring somebody who is smarter than an infinite number of investors, by all means, go for it.

 

[njhowie]

We have some funds in Pimco Total Return (PTTRX), which is actively managed, and it has done well YTD relative to everything else. Very happy we own it at this time.

 

[njhowie]

The entire purpose of the "index fund approach" is to build a seaworthy ship that stays well afloat whether the tide is coming in or out.

I'm sorry, but I have to disagree - that is not the purpose of the index fund approach. What you describe is the justification for a particular asset allocation and diversification. The index fund approach is simply to minimize expenses.

in the hope of hiring somebody who is smarter than an infinite number of investors, by all means, go for it.

With an index fund there is no smarts involved whatsoever. Infinite number of investors? That they just dumped their money in to an index fund where there is no stock picking logic? That the fund blindly buys "everything" including all the good and bad?

I would never, ever buy an index fund - because it is not investing at all. It is hoping that over the long term, on the whole, the total value of stocks/companies go higher. However, there are technical issues with index funds, specifically because they blindly buy and sell their basket of stocks. We're seeing some of the effects of that at this time. It will likely be the same for some time going forward as well.

 

[OldShooter]

I can't disagree that index investing have outperformed the actively managed funds over the last decade at least, but starting today, would you still prefer to put new funds into the "overall market" vs ones that analysis says should perform better in the next 6-12 months ?

Sigh ... The average stock-picker will always underperform the low cost index funds that reflect his benchmark. Here is Dr. William Sharpe to explain: https://web.stanford.edu/~wfsharpe/art/active/active.htm

One of the stock-pickers' pitches has been that while they may not outperform in good times, they would do better in tough times. This has never been proven by any kind of statistical research, and it was not true in December 2018. That said, on average things have been pretty good. So it will be interesting to see, when the analyses come out after the current excitement, whether stock pickers did demonstrably better than passive investing. I see no reason that would be the case.

There always will be stock pickers that do well just due to random chance, but there is no way to know ahead of time which ones they will be.

... ones that analysis says should perform better in the next 6-12 months ...

Really? There are such analysts with verifiable track records of being correct? Please give us a list.

I'm sorry, but I have to disagree - that is not the purpose of the index fund approach. What you describe is the justification for a particular asset allocation and diversification. The index fund approach is simply to minimize expenses.

Actually no. Passive investing is based on the ubiquitous data that says results are essentially random, so trying to consistently pick winners is impossible. It is true, though that repeated Morninstar studies have shown that having low expenses is the only proven predictor of mutual fund performance. And certainly a passive fund has the opportunity to win in the low-expenses sweepstakes. So ... chicken and eggs puzzle I guess. Do they win because they have low expenses or do they win because they produce the best total return and coincidentally have a low-cost investment style?

 

[Closet_Gamer]

I know that the majority of investors on this (our) site prefer index fund investing over actively managed funds, but under the current situation, do you feel that analysts can better select stock portfolios that will perform better under these stressful conditions than the "overall" market ? At least safer ones ?

Nope.

I continue to think it is the very rare bird indeed that has an information advantage over the market, particularly on large companies.

I'm sure there will be some active managers who do well/get lucky during this period who will be heralded as geniuses for the next decade. Similarly some past geniuses are getting killed right now.

I'm certainly not smart enough to pick individual stocks. I'm also not smart enough to pick the managers that are smart enough to pick individual stocks...not to discern luck vs. skill.

I am picking through some beaten down sectors, but even there I'm buying an indexed swath of companies rather than a managed portfolio or individual stocks.

 

[easysurfer]

The trick is knowing when "these conditions" actually end .

 

[Which Roger]

I know that the majority of investors on this (our) site prefer index fund investing over actively managed funds, but under the current situation, do you feel that analysts can better select stock portfolios that will perform better under these stressful conditions than the "overall" market ? At least safer ones ?

No. I don't see why we should think that an analyst would perform any better or worse now than at any other time.

 

[luckydude]

Actually no. Passive investing is based on the ubiquitous data that says results are essentially random, so trying to consistently pick winners is impossible. It is true, though that repeated Morninstar studies have shown that having low expenses is the only proven predictor of mutual fund performance. And certainly a passive fund has the opportunity to win in the low-expenses sweepstakes. So ... chicken and eggs puzzle I guess. Do they win because they have low expenses or do they win because they produce the best total return and coincidentally have a low-cost investment style?

I recall WSJ had a darts vs. pros stock picking contest a while back, and the darts won.

 

[luckydude]

Given the higher expense ratios of actively managed funds, they would essentially have to outperform index funds by at least the difference in their respective expense ratios just to match the performance of index funds.

And I would assume that actively managed funds would typically do much more trading than index funds, so there would be more tax implications for fund investors.

 

[njhowie]

No. I don't see why we should think that an analyst would perform any better or worse now than at any other time.

Are there funds whose managers constructed them to perform better in down markets than up markets? Certainly. Are there funds/managers who are performing extremely well currently as the indexes decline? Certainly.

 

[Freedom56]

I wouldn't buy broad market index or active managed funds. We are headed for some tough times. Many of the holdings in a broad market equity or bond fund are toxic. This is going to be a stock and bond pickers market going forward.

 

[LOL!]

We have some funds in Pimco Total Return (PTTRX), which is actively managed, and it has done well YTD relative to everything else. Very happy we own it at this time.

I beg to differ. PTTRX is a general bond fund and is often compared to VBTLX which is a bond index fund. YTD returns are:
2.69% PTTRX
3.58% VBTLX

so PTTRX is underperforming VBTLX by 25% calculated by (1 - 2.69/3.58)

That is, investors would have been better off using the index fund so far this year.

 

[Mr._Graybeard]

I'm a fan of SCHD for its value orientation and low cost. Its first-quarter return is -14.29%, according to the Fidelity screener, while Seekingalpha puts the S&P 500 TR at -19.6%. Who knows if that "advantage" will hold up over time.

 

[OldShooter]

Given the higher expense ratios of actively managed funds, they would essentially have to outperform index funds by at least the difference in their respective expense ratios just to match the performance of index funds.

And I would assume that actively managed funds would typically do much more trading than index funds, so there would be more tax implications for fund investors.

Exactly. That is essentially Dr. Sharpe's argument. And trading costs, which you identify, are a big factor. When a fund takes or leaves a position in a stock it drives a costly move in the stock's price.

Are there funds whose managers constructed them to perform better in down markets than up markets? Certainly.

Of course. Assuming we are talking about 100% equity funds, there has not been any data in the past showing that they achieve this objective. They did not in the December 2018 ripple. The current conflagration certainly will spawn studies that will tell us whether they achieved their objectives this time.

Are there funds/managers who are performing extremely well currently as the indexes decline? Certainly.

Of course, again. There are always funds who outperform passive investment. Over a year the number is around 1/3. Over ten years the number is around 5%. We have 20 years of S&P SPIVA reports that show this. These numbers are consistent with monkeys throwing dice.

The problem is that there is no way to identify the winners ahead of time if the results are near random. I am as greedy as the next guy; if I find a reliable method for identifying winners I'll drop my passive strategy instantly.

Important Clarification: I am talking about equity funds; I am not a bond fund guy. My sense is that the argument for passive investing in bonds is much weaker, although the S&P SPIVA reports always seem to show the passive bond funds winning. But for bonds, there is nothing AFIK like the mountain of data that supports passive equity investing.

 

[mrfeh]

We have some funds in Pimco Total Return (PTTRX), which is actively managed, and it has done well YTD relative to everything else. Very happy we own it at this time.

FXNAX is Fido's total bond fund, with an expense ratio 70 BP less than PTTRX:

 

[tsoispf]

When talking about active funds, are we talking all in one funds or categorized? I invest exclusively in category ETFs...Total US, Total International, Aggregate Bond, Small Cap, etc. I like seeing point in time how the fund is performing (not that I trade excessively). Just me. Instant gratification. But what I did like during the market run up and eventual crash was the ability to move from 60/40 to 50/50 and then 40/60 along the path. That significantly blunted the downturn. Hence the question about all in one or categorized.

 

[GravitySucks]

I've been using a managed bond fund for two years. It held up well during the week of bond panics last month.
I'm using that fund to buy equities in this rebalance phase. Equities are now all passive index funds.
When it's depleted I will be sticking to an intermediate Treasury fund and laddered 5 year Treasuries. Considering moving from 60/40 to 70/30 with the lower yield, higher quality FI.
If I was going to stay in a total bond fund I would be looking at the managed bond funds only because they don't automatically buy just because something is available. I think a good bond manager can see future corporate down grades before the rating agencies issue their proclamations.

 

[OldShooter]

When talking about active funds, are we talking all in one funds or categorized? I invest exclusively in category ETFs...Total US, Total International, Aggregate Bond, Small Cap, etc. I like seeing point in time how the fund is performing (not that I trade excessively). Just me. Instant gratification. But what I did like during the market run up and eventual crash was the ability to move from 60/40 to 50/50 and then 40/60 along the path. That significantly blunted the downturn. Hence the question about all in one or categorized.

Well, as a frequent advocate for passive investing (some would say "tiresome"), here is my take (limited to equity funds; I am not a bond fund guy.):

Truly passive investing is doing what Eugene Fama has repeatedly said: "We have to hold the market portfolio." Everything. The only fund I know of that actually does this is VT/VTWAX though there are probably others. While technically the "total market" funds like VTSMX and VGTSX are picking stocks only in one defined market, they typically get a pass on this and are considered "passive."

At the other end are the unabashed stock pickers. These funds are deliberately non-diversified, concentrating instead on trying to pick a few winners. Less than 50 stocks maybe? I don't know what the exact number might be. They are characterized by higher fees, which are justified as being necessary to pay all their "experts." They are also characterized by high trading costs because their turnovers often exceed 100% per year. And, of course, in aggregate they fail to deliver.

Between these two there is IMO a confusing spectrum.

"Near passive" funds include the S&P 500 funds, which pick/hold only about 15% of the US market issues, but that 15% represents 80% of the US market cap. So they are kinda, sorta, total market funds. Another class of near passive funds are the closet indexers. These funds hold a large number of stocks, diversified to the point that they effectively track a total market index. This is a cushy ride for managers because they can talk big and collect big fees, but they are taking little or no risk.

The spectrum between the closet indexers and the true stock pickers is broad and deep. Your small cap index fund fits here as do many of the bigger sector funds. This is essentially stock picking/trying to pick winners, but with more diversification, hence less volatility than a true stock picking fund would give you.

There are also many funds with "index" in their names, created by hucksters who want to trap the naive investor who has been told to "buy index funds." You like the "Sabrient Multi-Cap Insider/Analyst Quant-Weighted Index" ?? Somewhere, some huckster is selling an "index" fund based on this. How about "FTSE Asia Pacific Qual / Vol / Yield Factor 5% Capped Index?" The index creators are happy to create any goofy and narrow index that they have buyers for. It is not their job to protect the public from the hucksters.

Brief question, complicated answer. Sorry.

 

[audreyh1]

FXNAX is Fido's total bond fund, with an expense ratio 70 BP less than PTTRX:

Just to be clear, FXNAX is the Fidelity US Bond Index Fund, and is the Fido equivalent of VTBLX the Vanguard Total Bond Index Fund as they track the same index.

There is a Fidelity Total Bond Fund, but it is not an index fund, it is an actively managed bond fund which also has a higher expense ratio.