April 04, 2008


Last week I shared some insight into an investment philosophy often referred to as passive or index investing. This approach to managing investments started very slowly (people actually mocked the idea initially - after all, what investor wants "average" returns?!) and in recent years has swelled in popularity like a tidal wave. There is much helpful, independent research available to individuals considering the merits of an index approach ... I promised to share a couple of these resources.

(1) STANDARD & POORS (http://www.standardandpoors.com). S&P posts five-year trailing results of active funds relative to their indexes in their quarterly "S&P Indices Versus Active Funds Scorecard" (sample - http://www2.standardandpoors.com/spf/pdf/index/SPIVA_2007_q1.pdf). Their reports are available at no cost. Two helpful added elements to the S&P report are (1) a % breakdown of funds that have "drifted out of style" (funds that were initially value funds that are now growth funds; or mid-cap funds that are now large-cap funds, etc.); and (2) the % of discontinued funds (funds that are no longer in business, have merged with another fund, etc.).

(2) MORNINGSTAR (http://www.morningstar.com). Each year, Morningstar publishes the "Morningstar Indexes Yearbook" featuring three-year track records of active funds relative to indexes. They also provide a "Market Commentary" on a quarterly basis. Both reports are available for free at: http://indexes.morningstar.com. Much of the "other" research and resources on their website are 'for fee' services. Your local library will have subscriptions to many of their publications that you can peruse for free ...

Here is some summary information taken from a S&P report (use specific link provided above) - dated 4/25/07 (there is A LOT of additional information available in this free report; it's worth a look) ...

*Over the prior three years (and five years), ending 3/31/07:
- The S&P 500 beat 65.7% (72.2%) of large-cap funds
- The S&P MidCap 400 beat 68.6% (77.4%) of mid-cap funds
- The S&P SmallCap 600 beat 80.2% (77.7%) of small-cap funds

*Surprisingly, over the past five years, more than one in four (29.3%) U.S. stock funds have merged or were liquidated!

The bottom line? Over time, low cost index funds (and ETFs) deliver higher returns than most mutual funds but never "the best" returns. You have to decide for yourself whether the reliability of an index fund suits you or if you feel more comfortable taking your chances finding a better performing mutual fund.