Can Your Fund Choices Stand Up to the Test of Time?
Little noticed over the past few months was the fact that this Spring marked the 15th year anniversary
of my Newsletter. And just a handful of months short of 15 years ago, I issued my first Model Portfolios.
More on this later.
Over many years now, I have written about many topics and many subscribers and non-subscribers have come to
this site. Based on feedback, most seemed to like what they saw, although I've had my share of indifferent visitors and people
unsubscribing as well.
Given the vast number of articles I have written and the multitude of data I have presented, this seems like an apt time for me
to attempt to summarize what the purpose of the Newsletter has been. Of course, while most investment newsletters may
have a particular focus, one should realize that their main purpose is to sell subscriptions, thereby helping to provide
a living for the author.
Since my Newsletter is totally free, one must eliminate that purpose. So what then is the purpose? If one knows the
purpose, they will be more likely to either embrace it or just choose to walk away. Let me
try to take a stab at explaining it.
I have constantly seen and heard of investors who have had trouble with their investments. Why? Most likely, poor
choices of funds and less than ideal decisions in managing them. Since I have spend nearly 30 years now researching
these matters (pre- and post-Newsletter), I feel I have learned a few things along the way. So the main purpose of my Newsletter is simply
to pass along this information as well as to serve as my own investing guide helping me to plan what I myself will do next.
In this sense, then,
its audience can range from near beginners to long-timers possibly looking to improve their outcomes.
on page 6)
Researching and Managing Your Funds Can Give You a Huge Advantage
By Tom Madell
The following are the major points made in this article:
A more and more recurrent theme in fund investing is that broad index funds will be the best choice for investors.
Most managed funds tend to perform no better than the entire stock market but with higher fees.
Fund returns for the entire stock market as well as for non-core categories likely will vary significantly from each other
over periods lasting 5, 10, or more years.
Knowledge of these discrepant returns, as well as careful specific fund selection, can point to investments that
will outperform the core market averages by significant enough amounts over given periods
to make non-core and non-index fund choices highly worthwhile.
Data is presented that shows that even nearly 15 years ago, a list of more than a dozen stock funds and a handful of bond
funds, could be identified that would increase an investor's annualized return on each 10K investment by about $5K.
Many investors may immediately recoil at the title of this article. And why not? Actively seeking out the best funds
to invest in, meaning not just picking the most popular index or managed funds, and then actively managing your portfolio
takes time, some degree of knowledge, and may fly in the face of what many experts will tell you.
The best approach, these experts say, is to latch on to perhaps a small number of good funds/ETFs, often non-managed
index funds, and then don't monkey with them.
Speaking of monkeys, even my own daughter mentioned to me the so-called fact
that if you give monkeys darts to throw at a list of stocks, their choices on average
will get better results than the portfolios of
people attempting to actively manage their results, professional or not. Management of investments,
either by yourself, an advisor, or a fund manager
is frequently viewed as an activity that is more likely to detract from your investment results than to help them.
(continued on page 2
(Researching and Managing Your Funds Can Give You a Huge Advantage,
continued from page 1)
Of course, there is much to be said for the seemingly more and more frequently heard
argument that it is hard to do better than merely owning one
(or more) low cost index funds and just holding on for many, many years. I highly endorse such an approach, especially a)
as your time horizon for such holding spreads out further and further (like 20 years or more), b) you can almost swear
that you won't sell when times get rough, and c) you simply don't want to
get any further involved in managing your investments.
But a closer look at the outcome from holding an index fund, and more than likely any fund, shows a somewhat
different picture. Holding will produce superior comparative multi-year
results during some stretches
of time, but relatively poor results during others.
Case in point: Right now, many people might argue that a S&P 500 index fund/ETF, or perhaps better yet,
a fund that invests in the
"total stock market" (U.S.) such as the currently most popular fund, Vanguard Total Stock Market Index Fund (VTSMX) (or comparable ETF),
seems like a no-brainer as compared to most other choices. The evidence?
Over the last 1, 3,
and 5 years, their results have been near the top as compared to most other fund categories ("near" meaning within say
one or two percentage points annualized).
Unfortunately for many investors,
non-indexed (i.e. managed) diversified US stock funds tend to be highly correlated with these indices,
meaning that very few really offer you something
significantly different than these two indices, but at higher costs. A managed fund that is highly correlated
with an index fund tends to produce a highly identical result minus the higher fees incurred by the former fund.
Let's look at the correlations between the ten most popular domestically-oriented, diversified
non-index stock funds and VTSMX over the period 6/30/2009 through 6/30/2014. (Note: You can see the correlation
between any two funds at the following web site: http://www.portfoliovisualizer.com/asset-correlations )
Degree of Relationship (ie Correlation)
The Growth Fund of America Class A AGTHX
Fidelity Contrafund FCNTX
American Funds Washington Mutual AWSHX
American Funds Invmt Co of Amer A AIVSX
Fundamental Investors, Class A Shares ANCFX
American Funds New Perspective A ANWPX
Dodge & Cox Stock Fund DODGX
Vanguard Windsor II Fund Admiral Shares VWNAX
Fidelity Low-Priced Stock Fund FLPSX
Vanguard PRIMECAP Fund Admiral Shares VPMAX
These are shockingly high correlations since a correlation of +1.00 is the highest possible, 0 is the lowest. They suggest
that it would hardly made any difference whether you owned that fund or VTSMX; their end results should be nearly the same.
Did any of these 10 funds actually beat the 19.3% annualized return on VTSMX over the period?
Only three: DODGX, FLPSX, and VPMAX and
each by less than 1% annualized. Yes, then, investing in a broad index would certainly look hard to beat if most
broadly diversified, managed funds do indeed show just as high correlations with VTSMX.
So does that mean that what we have seen over the last 5 years is typical, and more importantly, will it
likely be repeated over the next 5, or the next 5 after that? Unlikely, and
here is the evidence: Approximately 5 years ago (at the end of June 2009), the annualized return for
the S&P 500 index over the prior 5 year period was -2.2%; for an index of the US total market, it was -1.6%.
(The results for even the lowest cost index funds mirroring these indices, such as from Vanguard, were slightly worse
since all such funds must deduct something for expenses.) These results
were quite poor in an absolute sense, considering that stocks tend to average returns of around +9 to +10% per year.
Was this the best you could have
done over the mid-2004 through mid-2009 period? Not at all. Here are some non-broad based categories and non-US
stock fund categories
you could have invested at least some of your money in instead
and each category's subsequent average annualized return. These categories together
represented many 100s of different funds.
Natural Resources +8.4
Emerging Markets +12.4
Pacific Region +7.8
Gold Oriented +14.5
These positive results versus the negatively returning indices may not seem like terrifically huge differences until one realizes
that the difference between receiving a return of say +6% a year vs. -2% a year over 5 years would
amount to well over $4000 on each $10,000 investment. Specifically, the 6% return would amount to $3382; the -2% loss
would be $961, with the difference in dollars being the sum of these two figures.
Since the above categories did significantly better than VTMSX, one would expect their correlations with it to
be less than those shown above
since a very high correlation means assets move nearly in unison. During this 2004-2009 period, the index fund
had a negative result.
Therefore, extremely highly correlated funds should also have a highly similar result. However,
funds with a less high correlation might act somewhat more independently and potentially show a better result.
The following are correlations between VTSMX and representative Vanguard
funds from these above categories; I also show the total annualized return for each fund during that mid-2004 through mid-2009 period:
Degree of Relationship
Vanguard Utilities ETF VPU
Vanguard Materials ETF VAW
Vanguard International Growth Fund VWIGX
Vanguard Emerging Markets Stock Index Fund VEIEX
Vanguard Pacific Stock Index Fund VPACX
Vanguard Precious Metals and Mining Fund VGPMX
As you can see, even a relatively small drop in correlation from that for the ten funds above means that
a fund may be different enough from the index that its results can be significantly different.
So far, we have shown data for two separate 5 year periods.
What about for the full 10 year period between June 30, 2004 and June 30, 2014? The following
fund categories were among those that
averaged significantly better returns than the 7.3% ann. return for the average S&P 500 index fund and even
the 8.3% ann. return for VTSMX.
Health & Biotech 11.7%
Emerging Markets 11.2
Natural Resources 11.7
While the indices during this period did moderately well, investors could have done better in a number of other categories
of funds, although granted not a large number.
So, it appears that to have a chance to do better than even the highly regarded broad based indices, one might need
to add funds somewhat away from the "core" of stock investments these indices provide. While the particular categories
might differ depending
on when you were investing, categories to be considered might include international investments and well as funds
more narrowly focused on certain stock market sectors.
Now let's look at some data that span 15 years. But instead of just focusing on identifying non-core
investment categories, let's examine a variety well known specific stock funds that have in the past shown the ability to perform well
under a variety of market conditions. In fact, approaching 4 years ago, in my Newsletter article entitled
"Our Long-Term Fund Choices for the Next Five Years" (Dec. 2011), I discussed 8 outstanding stock
funds, and in addition a S&P 500
index fund, I felt were one's
best bets for achieving the improved results goal mentioned in my left hand column beginning on page 1. If one can identify such
funds, one would certain think that they should have "staying power" over very long periods of time.
And, if such a search for funds is to be indeed worthwhile, their long-performances should, in most cases,
reward the investor with better returns than even a solid fund such as VTSMX can provide.
Here then is a current performance chart showing the 15 year total ann. returns of the 8 funds as compared to the
total return of the S&P 500 of 4.39%, and more specifically, 5.21% for VTSMX (these two returns
that in spite of the current 5+ year bull market, it has not been a good one and a half decade period for
core index investors):
15 Yr. Ann. Tot. Return
Yacktman Fund (YACKX)
VWNFX Vanguard Windsor II (VWNFX)
Fidelity Contrafund (FCNTX)
Fidelity Low Price Stock (FLPSX)
Vanguard Small Cap Growth Index (VISGX)
Vanguard REIT Index (VGSIX)
Vanguard International Growth (VWIGX)
Tweedy, Browne Global Value Fund (TBGVX)
This and subsequent returns from morningstar.com for the period July 25, 1999 thru July 25, 2014.
Clearly then, there appears to be a flaw in the notion that VFINX, or even VTSMX (or similar funds/ETFs), will always be
the best funds to invest in, even for the relatively long-term. As you can see, every one of my carefully selected
funds has a track record that is better, in some cases significantly so, than the index performance over this
decidedly long period.
Of course, if one waits another 5 years, perhaps
these core index fund holdings will again return to ascendency. However, a period of 15 years of outperformance,
and in some cases a more than doubling
of investment returns, is enough to convince me that relying mainly on either/both of these indices to be your fund/s
of choice only makes sense if you truly believe that chance is the only factor that governs long-term investment returns,
thus propelling monkeys to an equal or better status than humans when taking fund expenses into consideration.
I know that some people still won't be convinced. I've realized that right from the start of the 15 years I've been writing my
Newsletter. I suspect that's why many people come and go from my site, without apparently ever gaining from the
kind of valuable information I think I am providing. (But that's OK; we all have to size up reality
in our own individual ways.) But I'll take one last shot here at trying to show that first researching and then attempting
to choose funds that beat the core indices
can be done in advance and can make a big difference to the investor's long-term bottom line.
Take a look at my Model Portfolios published on
Dec. 31, 1999,
or approaching 15 years ago. In that early Newsletter, I recommended 14 stock funds, 5 bond funds, and one money market fund.
(Note: It is fortunate that the website http://archive.org/web/ has a repository of web pages that go back as far as the 1990s so
that anyone interested can see what I was saying starting from my first Newsletter.)
Now, nearly 15 years later, we can see how these choices performed if one merely held them for 15 years. (It should be
noted that my Newsletter does recommend changing investments on occasion; therefore, any poor performing funds can readily be
The tables below again show 15 year returns;
a few of the funds are the same ones we continued to select in 2011 (see above):
Stock Funds Recommended Dec. 31, 1999
15 Yr. Ann. Tot. Return
Fidelity Low Priced Stock FLPSX
Vanguard REIT Index Inv VGSIX
Vanguard Small Cap Index NAESX
Vanguard Extended Market Index VEXMX
T. Rowe Price Value TRVLX
Janus Overseas JNOSX
Foreign Large Blend
MainStay ICAP Equity I ICAEX
Vanguard International Growth VWIGX
Foreign Large Growth
Vanguard Index Europe VEURX
American Century International Growth TWIEX
Foreign Large Growth
Vanguard Growth and Income VQNPX
Vanguard Index Pacific VPACX
Janus Fund JANDX
As in our 2011 selections above, one of the stock funds was VFINX so we don't show that in the table
and won't count it in the comparison described next.
Bond Funds Recommended Dec. 31, 1999
15 Yr. Ann. Tot. Return
Vanguard Long Term Investment-Grade Inv VWESX
Vanguard Long Term Treasury VUSTX
PIMCO Total Return Instit PTTRX
Vanguard High Yield Corp VWEHX
Fidelity Intermediate Bond FTHRX
Of the 13 stock funds, 8 beat the return on VTSMX over the last 15 years. The average annualized outperformance
was +1.5% and +2.3% as compared to VFINX. But that's not all.
Four out the 5 of the bond funds also beat the return of VTSMX! Who would have expected that? The average bond fund outperformance of VTSMX
was the same at +1.5% showing that on relatively rare occasions, even bond funds may be a wiser holding than VTSMX over
An outperformance of 1.5% might not seem especially noteworthy. But, in this case, the outperformance
is the average outperformance for every single year of the 15 year period, compounding year after year. By checking on
a financial calculator, you will see that in the case of investing solely in VTSMX, each original investment of $10,000 made 15 years ago
would have grown to
$21,422; if one had invested in my 13 non-core funds, it would have grown to $26,490 - that's over a $5000
difference per 10K invested! You
can check these figures yourself if you have doubts. (One site I found where you can plug in the 5.21% return
vs. a 1.50% higher return over 15 years is http://www.calcxml.com/calculators/interest-calculator )
Once again, the data show that merely investing in either of the two most popular "core" domestic stock index funds will
not necessarily led to the best results. In this case, some of the best performing funds were either managed
funds or index funds that were investing in special corners of the overall market, such as value stocks, real estate,
and small/mid cap categories.
To summarize: Just parking your money in an index fund, or any fund/s, for a long time, and expecting your portfolio to
give you very good results as compared to what you could have earned in any of a number of other carefully selected funds/categories
does not appear to stand up.
Of course, at this moment in time, as suggested above, these two aforementioned
indices may appear to give you among the best results possible,
but this is
only based on results from the last 5 years. During this period, many investors, it seems, were still reeling
from the still recent
'07 to '09 bear market and therefore were reluctant to gravitate too far afield from the "safest" and
best known stocks and market indices. Stock fund returns pretty much across the board
were highly correlated, with little advantage accorded to
those who chose away from the core indices.
Regarding the above bond fund results, of course, this is not to say that
I expect bonds to continue to do better than the S&P or total market funds
for stocks over long periods going forward. But the results do go to show several things: a) the S&P or total market funds are
obviously not always the best places for investors to be, and b) people who tend to perennially disregard bond funds
perhaps need to re-examine their stance.
Bond funds can be nearly as good or even better places to be during periods when
stock funds are overvalued and interest rates are stable or declining. I consider both of these
two conditions true right now. But especially the second part of this statement is likely to change over the
next year or so. (Of course, if stocks enter a significant correction, or even a bear market, then the
first part of this statement may no longer remain true either; once stocks return to fair valuation, their forward-looking
prospects will look significantly better.)
Also, as noted above, the above data does not mean to suggest that everyone should routinely hold their
particular fund choices for 5, 10, or even 15 years. My Newsletter may be particularly helpful to investors trying to find which
additions to their portfolio can improve their end results. Down through the years, I have tried to find funds that might be the best
available at that particular time. But of the 20 funds we first recommended back nearly 15 years ago, we still have investments in
all but 5. And based on the above results, we are glad for having continued with them.
My fund choices cannot be expected to outperform every year, nor even over several year periods. But well-chosen funds can, as my
data suggest, have a very good chance of outperforming, even the indices, over long periods of time.
Please return to Page 1 if you haven't already read the companion article Can Your Fund Choices Stand Up to the Test of Time?
(Can Your Fund Choices Stand Up to the Test of Time?,
continued from page 1)
While many people regard investing as a "set and forget" activity (and I respect their reasons), I have come
to believe that actively managing one's funds on an as needed basis is the way to go if you have the time. But how
does one steer a path so that one actually improves their results as opposed to merely making changes that do
not materially wind up making much difference, or seemingly most frequently
of all, end up worsening your results instead?
With my Newsletter's bias hung out for all to see, this is relevant to what
this month's main article will deal with, starting back on page 1. At times, it may be best to hold your funds indefinitely. But since circumstances
can often change, so too might you modify your fund selections, even if those current selections happen to be highly rated index funds.
Feedback is always welcome as are suggestions for new topics to be covered. Email: firstname.lastname@example.org
Here's to good returns and at least another 15 years of investing!
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