Charley Ellis, a 45 year veteran of investment in the markets, has been quoted as saying “the sad lesson for retail investors is that institutional investors underperform the market and that includes those professionals running managed funds.”
In his book, “Winning the Loser’s Game”, Charley Ellis explains that managed funds, on average, will underperform the market average by 2.85% per annum due to the costs of fees, transactions and mistakes. Yes, investment managers make mistakes too!! Hence the managed funds average returns are below par.
Furthermore, the research quoted appears to have used the S&P500 (which excludes dividends) as the market benchmark against which to measure managed funds returns. Considering that managed funds derive a sizeable chunk of their returns from dividends, this paints an even worse picture for the managed funds.
Whilst his findings are based on research in the USA, there is no evidence that it is any different in Australia. In fact, some simple scanning down the Morning Star managed funds data in the Saturday Financial Review over the last 10 years will confirm this.
One of Charley Ellis’s main reasons for this underperformance by the managed funds, or the market pro’s as he calls them, is that over the last 50 years the funds have gone from being 10% of market turnover to 90% of the turnover. “The institutions are the market. They cannot, as a group, outperform themselves. In trying to find a solution to outperform the market they have become the dominant variables. And their efforts to beat the market are no longer the most important part of the solution; they are the most important part of the problem.”
Fees are also a massive contributor to underperformance. It was recently reported by Jessica Irvine from the Herald Sun that “Australians pay about $17 billion a year in fees to the approximately 350 super funds in Australia, including government funds, industry funds and retail funds”.
Jessica goes onto add, “But that’s the end of it, right? Your super fund manages your money? Wrong. Most super funds do not actually invest your money directly, but outsource investment decisions to a panel of fund managers. These fund managers are big names such as AMP, Colonial First State, State Street, Challenger and Perpetual. They too, of course, expect a fee for their service”.
“So for most people, your employer chooses a default super fund, which in turn chooses an asset consultant, which in turn chooses a fund manager to manage your money. It’s a pretty long chain of command, along which fees are applied all the way, not to mention the potential conflicts of interest that arise because the big Australian banks own both the major super funds and the major fund managers.”
There is only one way around all this and that is to take charge of your own destiny, become educated and driven to manage your money yourself. Active investment is a 40+ year game for most people and the skills that you will gain from investing yourself will be of tremendous value for the rest of your life and stay with you for life.
