Yesterday, I referenced Merrill Lynch research that showed only 39% of fund managers beat the S&P500 last year.

This morning, the WSJ references Goldman Sachs research — it shows something similar. Their data showed 65% of U.S. large-cap stock funds trailed the benchmark index net of fees. (5 year average = 66%).

When they looked for funds that beat the index two consecutive years, they came up with an astounding number: A mere 10% of nearly 2000 U.S. stock funds beat their benchmark in both 2011 and 2012 (Source: Morningstar research).

This is why most people are better off putting money into inexpensive passive index funds.

If you want to at last have a fighting chance to pick a fund that actually has a shot to beat its benchmark, these 2 steps are a start:

1. Low Fees — look for funds with an expense ratio of 0.86% or below.

2. Avoid Closet Indexers — find funds with a low R-squared ratio.

The full article explains these in great detail.

I still think that for many people, especially those with portfolios under $250k, passive indexing is simpler, less expensive, and more reliable.



How to Find a Fund Manager Who Can Beat the Market
WSJ, January 12, 2013

Category: Investing, Mutual Funds

Please use the comments to demonstrate your own ignorance, unfamiliarity with empirical data and lack of respect for scientific knowledge. Be sure to create straw men and argue against things I have neither said nor implied. If you could repeat previously discredited memes or steer the conversation into irrelevant, off topic discussions, it would be appreciated. Lastly, kindly forgo all civility in your discourse . . . you are, after all, anonymous.

5 Responses to “Finding Mutual Fund Managers Who Beat the Market”

  1. So another rule of trading/investing has to be added to “keep your losses short”, namely “keep your expense ratio short”.


  2. Stav says:

    One other odd note from yestrday’s Journal on beating the indexes…from Zweig’s column it appears that only about 5 percent of index funds beat their indexes.

  3. CountingSheep says:

    Stav – the measurements are after expenses. So if the fund matches its benchmark perfectly, it will lag once fund expenses are taken out. There are costs to replicating the index, let alone the actual expense of administering the fund. The funds that beat their index either had a tracking error to the positive and/or were generating income from non-index replication activity (e.g., securities lending).

    I don’t find the 65% of funds underperformed statistic that surprising. The correct comparison is active funds vs. the (cheapest) index fund corresponding to their benchmark. You’d still have alot of under performing active managers due to their higher mgmt fee, but at least you are comparing them to an achievable alternative, not the cost-free index.

  4. Jack Doyle says:

    I know that this article is stale and that comments probably are no longer being followed. But, just in case, I take exception to a couple of points in Joe Light’s article.

    You may want to look more closely at the evidence behind what Joe said about fund expenses and their effect on performance, and that a high R-squared necessarily means closet indexing and market (benchmark) returns at best.

    As for fund expenses, in my few decades as an analyst I have never found a relationship between fund expense levels and fund returns when the measurement is done correctly. There are funds with ridiculously high expense ratios that easily beat funds of the same category (correctly determined) that have low expense ratios. In my infrequent blog posts I address this point twice under the topic “The Expense Paradox.” You may see my comments here

    and here

    A portfolio’s high correlation with its properly assigned benchmark does not necessarily mean that the manager is closet indexing. There is a recent post on the MPI (Markov Processes International) web site that touched on the R-squared misunderstanding, among other things. The post “Beyond Correlation: Using Active Style™ to Understand and Display Fund Performance” can be found here (You’ll have to read down.)


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