You missed my point on Bill Gross and I never suggested that mutual funds should adjust their pricing based on the prior year’s performance. So I’m skipping those first two paragraphs.
To your third paragraph, the average fixed income mutual fund charges roughly 1% and the average equity fund is more like 1.35%. So what you’ve just suggested is that revenue drops by 70% for fixed income funds and by roughly 50% for equity funds. Only two things can happen, either everyone takes a massive pay cut or people lose their jobs. Who’s jobs are going to be cut? Not the top performers. Who’s pay is getting cut? Not the top performers.
Finally, I’m not angry. The only reason I replied to this thread is because you suggested that advocating for an index strategy is for those with a lack of investment passion. Yet, when we look at the data, the clear result is that clients have a greater probability of achieving their financial goals through the use of an index based strategy than through active management. Your comments are read by many on this board who may not have access to the data, or may not have been shown how one-sided the results actually are. They may be shocked to hear, for example, that 90% of fixed income managers have underperformed their benchmark over the past 15 years. They may be fooled by people, like you, who equate indexing strategies to those that just don’t know how to invest. As I’m someone who is passionate about my job, and am passionate about helping families achieve their financial goals, I’m compelled to correct your false statement in the hopes that you don’t mislead them about the truth.
i advocate active management for those who can achieve success in it. a higher percentage of those people tend to be those with a solid understanding of finance and likely have a business degree or CFA or whatever. obviously i don’t think everyone should opt for active management. if you have no knowledge, go the buffet route and go passive. you have some knowledge. why not try to meaningfully boost your returns relative to the benchmark and/or peers? like the minor/junior leagues we discussed, even “amateur” investors have to see if they’ve got the stuff.
also, pretty much all fidelity equity funds are 1% or below. i’m not sure where you’re getting your average from… i don’t invest in U.S. mutual funds so i wouldn’t know for sure but i thought 1% was incredibly conservative. many large cap fidelity funds are already at 0.7%-0.8%.
my bet is that most PMs won’t lose their jobs and instead firms will automate the crap out of the back office. i mean, really, the PM should only really be let go when the fund has no assets.
I’m not arguing that security valuation isn’t a necessary job in our society or that people shouldn’t try and see if they’re any good at it. You’ve suggested that indexing is an inferior path to take, when in reality it has higher expected returns and the gap only grows as the time horizon grows longer. As the least qualified among us leaves the active space for the passive space, the active game grows more difficult and cumulative underperformance becomes concentrated among the remaining players. Personally, that doesn’t seem like an industry I’d be excited to try and join.
My I respectfully suggest asset allocation and sector concentration has shown to be responsible for most of the alpha generation according to the performance attribution studies I have seen. “Stock picking” is a tough road. I’ve been piling into natural gas producers all year. Debt and equity. Around twenty names. As usual, if I tried to pick a few, I would have missed the real movers. Just my anecdote, but supportive.
Well, since it’s still a market, it’s still a zero sum game. The cumulative performance of all asset allocators will be zero, less the fees. If there are 10,000 investors and 200 of them are active asset allocators charging 1% while the remaining 9,800 own every investable asset at 20bps, then we know that the 200 active asset allocators are going to underperform, on average, the 9,800 passive investors by 80bps each year.
Of course, nobody owns every asset class in the appropriate proportions, so this is not market reality. Most passive investors have extreme biases in their portfolios, usually home bias, large cap bias, growth bias, etc. In addition, not every asset class is own-able by most investors, so again there are difficulties there. These frictions and biases open the door for active allocators to identify and exploit opportunities. However, the market is moving closer every day to providing more diverse investment options, so again this window of opportunity is shrinking. I do not suspect that this window will close much or quickly, since there are rational explanations for the biases and frictions just mentioned. The same can’t be said for the world of stocks and bonds.
It is somewhat ironic the the main reason active managers underperform is because they have fee paying clients. This is true for basically any retail fund without lock ups. Clients want 20% a year but cannot tolerate 15% drawdown. So glad to be out of public funds. Every fund should have a designated minimum holding period, but clients also overvalue liquidity.
the link you provided states that the average equity mutual fund fee is 0.7% and average bond fund fee is 0.57%. i believe you’re referring to the simple average which isn’t really important. so fees are already pretty reasonable. maybe they can fall another 10-20bps but they’re getting close to bottom already, relative to passive strategies.
also i’m not suggesting that passive investing is inferior. never have. i’ve stated either in this thread or another recently that i use passive investing for part of my assets and in the strategies i develop for my clients. that said, there is much to be had through active investing if you can be successful at it. i’m not talking about averages like you can perform 0.2% better annually over your lifetime, i’m talking about performing 5% better annually over your lifetime. 0.5% annually makes no difference either way, who cares. if i can make an extra 5% annually over my lifetime, that’s the difference between comfortable and filthy rich. anyone that exploits inefficienies and finds success in active investing should keep at it. when you’re investing in actively managed funds, it’s more like a lottery, though chance is a big part of everything in our lives. maybe you’ll pick the best fund the world, maybe you’ll pick in underperformer.
Yes, there are multiple ways to compute an average. However, both sets of averages include low cost index mutual funds as well, which artificially distort the numbers lower than what just the ‘active’ management fees actually are. Seeing as how the largest funds in the world are charging less than 20 basis points these days, that’s providing quite a distortion downward. Active funds are charging much more than the numbers you have stated.
Active funds with hundreds of positions are basically beta huggers that should not exist, I think there’s a need for satellite strategies that can add idiosyncratic risk to the portfolio and asset/sector allocation is much more important in generating alpha than stock picking anyway.