Friday, April 20th, 2012
Trying to Beat the Index and Failing
Research last week showed that the majority of fund managers, whose job it is to invest the savings of millions of UK citizens are unable to beat the FTSE All Share Index.
The conclusion that we draw from this is that fund management is a pretty tough job, because you are going to get continually compared to the Index. The Index is a very formidable opponent, and as these figures show, it inexorably grinds down the fund managers until there are only a few left standing that have a better record. It’s mainly down to cost, of course – the Index has the considerable advantage of having none of the costs that funds pay like trading costs, annual management costs, audit fees, legal costs etc. The problem that investors have is that we have no idea in advance which fund manager is going to be skilful (or lucky) enough to perform better than the Index.
So we do the sensible thing and play the odds. If only 20% of managers can beat the Index over long time periods and we don’t know who they are going to be, we buy the Index, and we can do this at very low cost indeed. This way, we can be pretty sure that we are going to beat three quarters of the managers. That feels pretty good.
Once we have completed our Financial Planning process and we are engaged by a client to provide investment and wealth management services, we use Index funds to create our client portfolios. We think that this gives our clients better odds of a successful investment experience in progressing towards their Financial Planning goals than if we tried to pick a needle in a haystack by guessing which fund manager might do better than the Index.
Because we believe that such a method gives better odds, the investments and pensions of our directors are invested in exactly the same way.
Finally, we humbly echo the words of the legendary Warren Buffett:
‘Most investors, both institutional and individual, will find that the best way to own common stocks is through an index fund that charges minimal fees’.
Chairman’s Letter, Berkshire Hathaway Corp. 1996 Annual Report
It’s hard to argue with the Sage of Omaha.