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Generally, I’m an indexer. Two exceptions: Fidelity Total Bond Fund (FTBFX) and Vanguard Wellington (VWENX), which is about 35% bonds. I’ve held both for decades and based on long-term results, I believe–maybe irrationally–that active management has been worth the extra expense. John Bogle argued in one of his books that Wellington is a quasi index fund.
“The aggregate returns of all investors in the market must by necessity equal the total return of the market.”
So, no. Active management doesn’t make sense. Management fees, tax consequences and other costs of frequent trading make it nearly impossible for investors to beat the market using active management. The managers do great. The investors? Not so much.
Simply buy the total market at the lowest possible cost, at market weight. Then do nothing.
It definitely could although probably rarely. I might choose to do so when considering variability/volatility, steadiness of income stream, taxation consequences and indecisiveness about alternatives.
No.
And I don’t understand why you would buy any bond fund when rates are more likely to go up than down.
But I own individual tax free royalty trusts in a taxable account. People here may think it is gambling, but I’ve done well with this piece of the mix. Sadly, last year’s success was extraordinary due to the Ukraine war, but even removing that, royalty trusts have provided income over the long term although very volatile short term.
Bond and Small Cap only. For the risk management.
My problem with index funds is human emotion. Most indexes are driven by market capitalization ( # of shares X share price ). It’s the share price where human emotion enters. We know that in say, the S&P 500 there are overvalued stocks and undervalued stocks, we just don’t yet know which are which – wait 10 years for the earnings. Right now, Apple and Microsoft combined are 13.4% of the index which means for every $1,000 index purchase, $134 goes into those two stocks.Yes, those are great companies but are they at great prices? So for that reason, I’ve been looking at “fundamental” indexes which do not use market capitalization ( price ).
Not if they are in a taxable account because the unexpected capital gains distributions trigger income subject to tax. One way this can ruin your planning is if you plan to have income below an additional Medicare premium threshold (IRMAA), which for a retiree is typically total income plus tax exempt interest, And the unexpected capital gains distribution can ruin such planning and you have to pay additional Medicare premiums.
An (S&P 500) index fund is a core holding of mine, but it does have it’s own risk characteristics, such as elements of momentum investing, buying high and selling low, being subject to overall market sentiment etc.
For these reasons, I’m glad to own a high quality, managed value fund (Vanguard Wellington), which has its own risks, but they’re generally different from the risks of an index fund.
The benchmark, in my view, is not “beating the averages”, but “beating inflation”, and I’m not concerned if my value fund over or underperforms its benchmark index by a small amount, given the risk diversification.
We can state as fact that your S&P 500 index fund is reflective of all investors in the market, since it holds a reasonable representation of the market, at market weight (S&P 500 performance closely matches total market performance).
You then say that the S&P 500 has the risk of “being subject to the overall market sentiment” and that you own Wellington Fund to protect against this (among other things, and acknowledging that Wellington – a fine fund in my opinion – has its own risks).
My question is this: if the S&P 500 index represents the market, and the Wellington managers are investors in the market, their “sentiment” is therefore reflected in market activity, just like all other investors. How, then, does owning Wellington protect you from market sentiment? Are Wellington managers immune somehow from market sentiment? Or is some other form of protection at play?
I don’t have any actively-managed funds any more, though one of them might count as “index-plus”. From time to time, I see situations in which I think a wisely-run actively-managed fund would have special value. These situations usually appear in a volatile market where sectors are moving in different directions. An experienced active manager can identify places where an investor can put some money and gain some advantage by knowing which sectors are moving the right way (or at least not moving the wrong way). Index funds don’t slice like that. But I don’t view the opportunity I mentioned as a way to position yourself for the long-term.
Yes. Buying an actively managed mutual fund the right way is one way to learn about investing. The first three or four funds I invested in were actively managed. I learned what mutual funds were, how funds compared, dollar cost averaging, funds are volatile, the value of re-investing distributions, and holding for the long term. I have held several of those funds for 30 years, and they have been excellent investments.
I know lots of people who invest only in bank accounts and home ownership because that’s all they know. Using an actively managed mutual fund could teach them a lot about investing.
Make investing too complicated “active/passive management, indexing, high/low expenses” can scare people off.
Given current conditions, yes if you feel the need to have short-term bonds.
I am usually an individual stock guy. Sometimes I will buy a closed-end fund selling at its historically high discount. Been 95% stocks, 5% cash for decades. Social Security will be my fixed income. Today it would be like owning $2.3M in a 10-yr govt. bond. See no good reason to own any more fixed income. Obviously, stock market volatility doesn’t bother me.
As long as the costs (expense ratios) are low, that’s all that really matters. It appears that ex-US and EM funds can do fine or better than index funds, but you just have to be careful you don’t performance chase. It’s funny to look at the investment lineups in 401k plans – they often feature some index funds and a slew of the last 10 years’ hottest active funds. And guess what many participants go for… thankfully, target-date funds are becoming mainstays in plan lineups nowawadays.
I know the stats, but I only buy individual stocks or actively managed funds. I think the key is to have confidence in what you own so you don’t panic in the panics.
I would never recommend an actively managed fund. It is just too hard to beat the averages after expenses are considered. If you know you can generate an average return, why would you risk under-performing the market average?
I do think it makes sense on the bond side, and especially in the international bond space. If a bond index is market cap weighted, what you’re doing when you buy the index is to buy more of the most heavily indebted entities. That’s never struck me as a good idea.
I’ve never read any articles comparing the returns of index funds versus active funds. I suspect bond funds are not that different from stock funds.
Expenses matter and it is hard to beat averages over time.
Interesting point. What would you say is a decent management fee to pay for an active bond fund?
Excellent point. Arguably, you should own market-capitalization-weighted index funds when buying stocks, because a high stock market capitalization reflects investors’ collective vote of confidence. But large amounts of debt outstanding is another matter. While I don’t own fundamentally weighted bond index funds (those that might weight a nation’s bonds by measures like, say, GDP rather than the value of debt outstanding), I could see doing so if the funds were available at very low expense ratios.