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If most active funds don't beat the index what is their advantage?

CliffEdge wrote:If most active funds don't beat the index what is their advantage?

Entertainment.

CliffEdge wrote:If most active funds don't beat the index what is their advantage?

Massive fees to the fund managers

Boots wrote:

CliffEdge wrote:If most active funds don't beat the index what is their advantage?

Massive fees to the fund managers

Do we have any fund managers posting on here?

I haven't seen any convincing argument that index funds distort share prices. If anything they dampen movements. The price of individual shares rises or falls as it becomes in favour or out of favour with investors, but index funds keep the same percentage of a share whether the price rises or falls not dealing at all except when investors put extra money into the fund or withdraw it, and then the ETF buys or sells shares in ALL the constituents, not just one or two as an active manager might. In effect market prices are made by the money that is not in index funds and index funds are passive bystanders. Certainly this is the case with ETFs that track large indices because the market cap of the large indices is so enormous.

No these claims about index funds distorting the market sound more like the bleating of active managers who don't like their lunch being eaten by the likes of Vanguard and Ishares.

CliffEdge wrote:If most active funds don't beat the index what is their advantage?

I still wonder why people ask a question like this. To me it just seems not to make any sense, indeed, how could it ever make sense?

Expecting most active funds to "beat the index" would seem to me as reasonable as expecting most people to be above average height.

(Please! No long explanations based on skewed, small populations of how it could be possible for 'most' people to be above 'average' height, or how the 'average' human has less than two legs...)

CliffEdge wrote:

Boots wrote:

CliffEdge wrote:If most active funds don't beat the index what is their advantage?

Massive fees to the fund managers

Do we have any fund managers posting on here?

OhNoNotThatQuestionAgain...

XFool wrote:

CliffEdge wrote:If most active funds don't beat the index what is their advantage?

I still wonder why people ask a question like this. To me it just seems not to make any sense, indeed, how could it ever make sense?

Expecting most active funds to "beat the index" would seem to me as reasonable as expecting most people to be above average height.

(Please! No long explanations based on skewed, small populations of how it could be possible for 'most' people to be above 'average' height, or how the 'average' human has less than two legs...)

Let's focus on the interesting question that your question implies.... Why do the vast majority of active funds underperform before fees over a reasonable period like five or ten years?


If you can answer this correctly you can understand the flaws in your "average" argument.

AWOL wrote:Let's focus on the interesting question that your question implies.... [b]Why do the vast majority of active funds underperform before fees over a reasonable period like five or ten years?

Not sure which side I'm arguing on now, but here goes...
'underperform' what? An index has no frictional losses, but a fund does including buy/sell spreads when the fund trades, and taxes perhaps. And a fund has ways to outperform the index by short term lending some of its holdings and charging interest for that.
So active funds could underperform and index (or index fund) before fees because of trading costs. And a majority could if there was a skewed distribution of performance among active funds, such that the minority which outperform before fees do so to a greater extent than those that underperform do so.
But two other issues: there are fees to consider which are usually higher for active funds; and how does one identify the active funds which will outperform in the future?

scrumpyjack wrote:I haven't seen any convincing argument that index funds distort share prices. If anything they dampen movements. The price of individual shares rises or falls as it becomes in favour or out of favour with investors, but index funds keep the same percentage of a share whether the price rises or falls not dealing at all except when investors put extra money into the fund or withdraw it, and then the ETF buys or sells shares in ALL the constituents, not just one or two as an active manager might. In effect market prices are made by the money that is not in index funds and index funds are passive bystanders. Certainly this is the case with ETFs that track large indices because the market cap of the large indices is so enormous.

No these claims about index funds distorting the market sound more like the bleating of active managers who don't like their lunch being eaten by the likes of Vanguard and Ishares.

Index weights change every day

Boots wrote:

CliffEdge wrote:If most active funds don't beat the index what is their advantage?

Massive fees to the fund managers

So surely active fund managers are unlikely to promote passive funds: more likely to find ways to criticize them? Was this thread started by an active fund manager?

AWOL wrote:

XFool wrote:Expecting most active funds to "beat the index" would seem to me as reasonable as expecting most people to be above average height.

Let's focus on the interesting question that your question implies.... Why do the vast majority of active funds underperform before fees over a reasonable period like five or ten years?

If you can answer this correctly you can understand the flaws in your "average" argument.

What seems to be missing from your argument is any suggestion of the size of the figures for "vast" or for the quantum by which they "underperform".

CliffEdge wrote:

Boots wrote:

CliffEdge wrote:If most active funds don't beat the index what is their advantage?

Massive fees to the fund managers

So surely active fund managers are unlikely to promote passive funds: more likely to find ways to criticize them?

Indeed. Just as people whose business is in index trackers are unlikely to promote active funds and more likely to find ways to criticise them.

Really (although I do not have any investment in trackers - perhaps I should?) I don't feel any strong inclination to take sides one way or the other. Others opinions are available!

But it is an interesting subject. However, like some other endlessly discussed investment topics, perhaps it is undecidable?

CliffEdge wrote:Was this thread started by an active fund manager?

I couldn't possibly comment.

CliffEdge wrote:If most active funds don't beat the index what is their advantage?

They provide you with something close to market returns if the fund is diversified enough, and offer you the chance of getting a bit more than that if you pick the fund(s) that do beat the market (by enough to cover some of their fees and costs). So, a lot of investing and a bit of gambling. What's not to like?

XFool wrote:

AWOL wrote:

XFool wrote:Expecting most active funds to "beat the index" would seem to me as reasonable as expecting most people to be above average height.

Let's focus on the interesting question that your question implies.... Why do the vast majority of active funds underperform before fees over a reasonable period like five or ten years?

If you can answer this correctly you can understand the flaws in your "average" argument.

What seems to be missing from your argument is any suggestion of the size of the figures for "vast" or for the quantum by which they "underperform".

It varies by market and timescale but ignoring short time frames around 8 out of 10 underperform. It gets worse the longer the period. There are almost as many winners before fees as chance would expect. Outperformance doesn't persist.

Everyone should read the SPIVA reports for the actual performance and rates.

https://www.spglobal.com/spdji/en/spiva ... va-europe/

https://www.spglobal.com/spdji/en/resea ... hts/spiva/

This isn't religion it is data and the SPIVA methodology is thorough.

OhNoNotimAgain wrote:

scrumpyjack wrote:I haven't seen any convincing argument that index funds distort share prices. If anything they dampen movements. The price of individual shares rises or falls as it becomes in favour or out of favour with investors, but index funds keep the same percentage of a share whether the price rises or falls not dealing at all except when investors put extra money into the fund or withdraw it, and then the ETF buys or sells shares in ALL the constituents, not just one or two as an active manager might. In effect market prices are made by the money that is not in index funds and index funds are passive bystanders. Certainly this is the case with ETFs that track large indices because the market cap of the large indices is so enormous.

No these claims about index funds distorting the market sound more like the bleating of active managers who don't like their lunch being eaten by the likes of Vanguard and Ishares.

Index weights change every day

Not enough to matter.

hiriskpaul wrote:

OhNoNotimAgain wrote:

scrumpyjack wrote:I haven't seen any convincing argument that index funds distort share prices. If anything they dampen movements. The price of individual shares rises or falls as it becomes in favour or out of favour with investors, but index funds keep the same percentage of a share whether the price rises or falls not dealing at all except when investors put extra money into the fund or withdraw it, and then the ETF buys or sells shares in ALL the constituents, not just one or two as an active manager might. In effect market prices are made by the money that is not in index funds and index funds are passive bystanders. Certainly this is the case with ETFs that track large indices because the market cap of the large indices is so enormous.

No these claims about index funds distorting the market sound more like the bleating of active managers who don't like their lunch being eaten by the likes of Vanguard and Ishares.

Index weights change every day

Not enough to matter.

Actually, thinking about it more, the weights for most indexes are I think only changed quarterly or semi-annually. Only if some significant corporate action happen do weights change between scheduled rebalance dates. eg a takeover which immediately ejects a share from the index. That is why the turnover is so low for index funds.

hiriskpaul wrote:

hiriskpaul wrote:

OhNoNotimAgain wrote:

scrumpyjack wrote:I haven't seen any convincing argument that index funds distort share prices. If anything they dampen movements. The price of individual shares rises or falls as it becomes in favour or out of favour with investors, but index funds keep the same percentage of a share whether the price rises or falls not dealing at all except when investors put extra money into the fund or withdraw it, and then the ETF buys or sells shares in ALL the constituents, not just one or two as an active manager might. In effect market prices are made by the money that is not in index funds and index funds are passive bystanders. Certainly this is the case with ETFs that track large indices because the market cap of the large indices is so enormous.

No these claims about index funds distorting the market sound more like the bleating of active managers who don't like their lunch being eaten by the likes of Vanguard and Ishares.

Index weights change every day

Not enough to matter.

Actually, thinking about it more, the weights for most indexes are I think only changed quarterly or semi-annually. Only if some significant corporate action happen do weights change between scheduled rebalance dates. eg a takeover which immediately ejects a share from the index. That is why the turnover is so low for index funds.

Turnover is low because there is no need to trade as the market moves. They only trade on flows or corporate actions.
Daily adjustment of the index is part and parcel of the process. A stock goes up, its weight increases relative to the others and the next set of inflows is allocated according to the new weight.

There is no other commercial transaction in goods or services that I am aware of where price is the sole factor in determing the size of the allocation.

Personally, I think the key point missing from this debate whenever I see it discussed is that 95%+ of the population don’t give two hoots about active finance / investing. They wish to invest money to gather returns in the long run with very little hassle and low fees. Active management by picking stocks or picking active equity funds takes time and they encounter higher fees and are faced with the paradox of choice and strategies.

So for the vast bulk of people passive funds are the way to go; while they focus on their job or enjoying their life. This, in theory, should leave low hanging fruit for those willing to work and put time into stock picking to out-perform as a reward for time invested during this process. I believe this to be true; but this is not born out by the data for active funds. One reason for this could be that a surprising amount of money which ends up in active funds turns out to be surprisingly passive. Those who actively manage the money can argue this is the fault of the investors … but I’d refer to the original argument. Most people just want to place money to hopefully gain value, defer consumption and focus on other aspects of their life

A second argument why active money management may not perform in line is that the top tier soon move away from managing retail investments to their personal wealth of closed funds thereby skewing the data. The plethora of HFs and family offices would skew the data