Professional Documents
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Last month, John Boggle, founder of Vanguard Funds, the second largest mutual fund
company in the world, and a leading proponent of indexation over actively managed
funds, released new research showing that individual investors in exchange traded funds
(ETFs) are significantly under performing the very same ETFs in which they invest.
The degree of investor-lag ranged
from -0.4% per year for large-cap MAJOR MARKETS
value funds to -17.9% per year for Annualized Five-Year Performance
financials ETFs. Fund Returns vs. Investor Returns
Fund Investor Investor # of # of Funds w/
In other words, the average Large Cap Blend -1.40% -5.70% -4.30% 14 14
annual return for the 79 ETFs in Large Cap Growth -1.70% -7.70% -6.00% 6 6
the sample, over the study’s five Large Cap Value -1.80% -2.20% -0.40% 9 9
year period, exceeded the actual Mid Cap Blend 0.40% -3.00% -3.40% 5 5
1
July 23, 2009
As John Boggle put it, “So we have evidence, strong evidence, that exchange traded
funds ― because of the timing that goes on ― are not acting in the best interest of
investors, or investors are not acting in their own best interest, might be a fairer
way to put it (my emphasis)”.
While Vanguard’s study is the first one that focuses on the inability of ETF investors to
time the market, we have long been aware that poor investor behaviour is the rule rather
than the exception in the world of mutual funds. But what is striking is the degree of
under performance, which may be
TRADING FRENZY
the result of the incredibly high
Five Highest Turnover ETFs Five Lowest Turnover ETFs
turnover (trading) in the 79 ETFs in
Annual Share Annual Share
this study: more than 10,000% for Fund
Turnover
Fund
Turnover
the SPDR broad US ETF, for 1. iShares Real Estate 21,977% 34. iShares Europe 350 241%
In contrast, the investment strategy that we try to follow is based on a series of simple
principles:
• The essence of investing Is not the management of returns but the management
of risk
• Markets are efficient; it is very difficult to identify mispricing opportunities and
harder to exploit them profitably. Market timing doesn’t work
• Diversification is key
• Portfolio structure determines performance
• Costs matter
2
July 23, 2009
Boggle, in a Q&A after the release of the Vanguard study had a few comments to make
about the role of financial advisors in helping individual investors that I would like to
share with you. I hope you will find them useful
“Well, I happen to believe the financial adviser serves a very useful purpose for many,
certainly not all, but for many, and perhaps even most, investors. We put the stock
market and the bond market and financial planning in this aura of great mystery. And if
you have been around long enough… you realize that there is not that much mystery
about it. The idea is to capture the returns of the bond market and the stock market,
essentially. And that is all there is to it: to capitalize on the miracle of compounding
returns and avoid the penalty of the tyranny of compounding costs…. If investors
understand that much and are broadly diversified, they can really operate on their own.
Now, not everybody can do that….
So I think the investment adviser can play a very useful role, particularly in fund
selection and in asset allocation and, in general, trying to help investors avoid the
penalties of the behavioral kind of investing; of doing dumb things at dumb times. We
may even need a financial adviser to, at times of crisis, have the courage to say to his
clients or her clients, “Don’t do something. Just stand there. Stay the course.” It is
generally better than moving your money around at times of crisis.
…I don’t think we should rely on financial advisers to pick the best funds for us. They
can pick intelligent funds. They can pick broadly diversified funds. They can pick
funds with low turnover and funds with low cost. But picking funds that win is pretty
much hazardous duty that nobody, now matter what their knowledge is, has really the
ability to do. We rely too much on fast returns. I think the idea is to have the adviser
help you capture as much of the market returns as you can … “
YTD
Model Portfolio FP Index Excess Return
(July 22, 2009)
Capital Preservation 5.19% n/a
Income 5.12% 2.83% + 2.29%
Balanced 10.14% 2.99% + 7.15%
Growth 7.95% 5.25% + 2.70%
Aggressive Growth 9.34% n/a
Victor Medina-Leal F.
Toronto – July 2009