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What are the odds of outperforming an index?

There are all kinds of ways a person can manage their wealth, but when it comes to investing into share markets, we can split this into 2 main categories:

Active Management and Passive Management (AKA indexing)

We've written before about how we take an evidence-based approach to investing. This favours the indexing option, and you can read more about evidence-based investing here. As the name suggests, it has more evidence in its favour, which is why we like it. It tilts the odds to be with you, and not against you.

When it comes to Active Vs Passive, anyone would want to know the odds and which one is more likely to play into their favour. A common argument for propopnents of active management is the ability to outperform the market. So let's turn to the data and see what the odds of outperforming are based on long-term evidence:

In 1970, 355 actively managed US equity funds were in existence.

This represents 100% of the funds in this sample.

By 2005, 223 had disappeared (closed or merged), leaving 132 funds. No one could have reasonably known which they would be in 1970.

That leaves 37% of the original, so only 132 funds remain

Of the remaining funds, 60 were beaten by the market by more than 1%, leaving 72 funds still in the competition.

That's 20% of the original 355 funds remain.

Of these, 48 were ‘index-huggers’, delivering returns of less than 1% plus or minus of the market index, leaving 24 funds with > 1% above the market.

That's 7%% of the original 355 funds remain (24).

But in 15 cases it was not possible to distinguish between skill and luck, leaving only 9 funds that delivered skill based returns.

Now we're down to 3%, or 9 funds of the 355 we started with.

Of those 9, only 6 funds had very strong performance in the early years and when money flooded in, they underperformed the market, leaving just 3 (out of the original 355 = < 1%) as true winners by 2005.

This is based on US data, so it's worth entertaining the idea that maybe NZ is different. Maybe we have money managers that are better, smarter, quicker or some other edge where you can outperform better than US money managers. Let's look below at something called the SPIVA Report Card.

What it shows is that throughout NZ, whether the average manager is investing in NZ companies, Australian companies, or a combination, the odds are not very good. The average of all the funds is 91% underperform their respective index. That means that 9 out of 10 people who are paid hundreds of thousands of dollars in investor's money through fees, do worse than their index. That's... not a very good record.

This is rather clear and many people will disagree or be bothered by this, seeing it as an insult against their intelligence, investment picking ability, philosophy, or something else. It isn't an insult, it's just relaying historical data.

So, what are the odds of outperforming an index? The answer is low.

But I think a more important question we should ask ourselves is:

Is a less than 1-in-100 chance the sort of odds you want to take with your money?

Many investors and professional managers continue to believe that they are special (this is called 'Optimism Bias'). They'll say things like "Well, I'll just pick the winners then", which sounds so easy and enticing. But, if it were true... wouldn't we see those results by now?

The S&P 500 has been around for almost 100 years now (it started in 1926), so if so many investors could beat an index consistently, the results would be the opposite of what we're seeing. But like Sisyphus, these investors and managers keep pushing their rock uphill, in the hopes that it will lead to something.

Slowly, but surely, investors are catching onto this. The majority of investors around the world still invest in actively managed funds or worse, they pick individual stocks themselves, despite the fact that it's a loser's game. For those that understand the data and make informed decisions from it, more money is being invested into index-based products such as Index Funds and ETFs (see image to right).

All investing decisions are personal decisions. The thing that no one can answer except you is, do you want to gamble with your future wealth by having a small chance at doing a little better and likely ending up with less or a much higher chance of matching the market?

It's worth thinking about.


John C. Bogle, (2007), The Little Book of Common Sense Investing, John Wiley & Sons, Inc. Hoboken, NJ, pp. 78-83.

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