A little elbow bending with your investments paid off in 2012. The return on my Margarita portfolio, a mixture of one part domestic stocks, one part international stocks and one part inflation-protected bonds, provided a return of 13.31 percent. That’s better than 78 percent of the managed funds categorized at “moderate allocation” funds by Morningstar.
But what is striking is that using a three-part Margarita mixture did so much better than the yet more slothful two-part Couch Potato portfolio. That portfolio, an incorrigibly lazy equal mix of domestic equities and inflation-protected bonds, returned a mere 10.91 percent. It not only trailed the Margarita portfolio, it also trailed the 11.72 percent return of the average managed fund. Indeed, it ranked in the 73rd percentile. (See table below)
Is it possible that truly canonical sloth is slipping? This is not the kind of performance we’ve come to expect from sublime inattention and willful ignorance.
Yes, excuses can be made. One is that the 50/50 Couch Potato is going to underperform typical moderate allocation funds that are 60 percent equities and 40 percent bonds whenever equities have a good year— that would be 2012.
The same reality, played in reverse, is why the basic Couch Potato beat 92 percent and 95 percent of all moderate allocation funds over the last three and five years, respectively. Equities suffered some trauma over that time period and the Couch Potato portfolio had fewer equities. (As some will recall, the Federal Reserve worked heroically to lower interest rates over the last five years, causing bonds to appreciate handsomely.)
Another excuse is that 2012 was the first year in the last five that international equities did better than domestic equities. It also explains why the Margarita was only a so-so portfolio over the last three and five years. It has a big slug of international equities.
Now let’s look out to 10 years— the kind of time scale true Couch Potato investors like to consider. When we do that, the happy reality of low-cost index investing reveals itself. The Couch Potato did better than 70 percent of its competition. The Margarita portfolio did better than 82 percent of its competition. The Vanguard Balanced Index fund, a 60/40 mix of domestic equities and domestic fixed income, duplicates the asset allocation of the average moderate allocation fund. It did better than 71 percent of its expensively managed competition.
| A Good Year to Be Driven to Drink | ||||
| This table compares the performance of three index fund portfolios with the performance of similar managed portfolios over the last year, three-year, five-year and 10-year periods. Numbers in parenthesis are percentile ranks in each time period. | ||||
| Fund | 1 year | 3 years | 5 years | 10 years |
| Couch Potato | 10.91 (73) | 9.79 (8) | 4.47 (5) | 7.02 (30) |
| Balanced Index | 11.33 (65) | 9.46 (11) | 4.14 (9) | 7.07 (29) |
| Margarita | 13.31(22) | 7.81 (46) | 1.53 (76) | 7.38 (18) |
| Avg. Balanced Fund | 11.72 | 7.69 | 2.41 | 6.43 |
| Source: Morningstar, data for period ending 12/31/2012 | ||||
The message here is simple: the longer you invest, the greater the odds that the slothful investing I have advocated for many years will provide returns that beat a majority of the expensive alternatives. Indeed, the proof burden is now on the wing-tip shoe covered foot popular among fund managers.
Managed investing has demonstrated only one thing: It’s a great way to make a living from other peoples’ money. While the three index portfolios cost about 0.10 percent a year to manage, the average net expense ratio of the 284 managed funds of this sort is 1.22 percent, a full 12 times as much. The difference will make a lot of Mercedes payments— for someone who isn’t you.
Skeptical? Then let me offer you some history. When I started writing this column in 1977, the Investment Company Institutes’ Fact Book listed only 404 mutual funds (not counting the 40 newfangled money market funds). At the close of 2012 the Morningstar database listed a grand total of 8,666 distinct funds, including 1,438 exchange-traded funds. You don’t get growth like that unless someone is making lots of money.
All 8,666 of these funds argue and advertise that they strive for superior management and performance in their chosen category. The reality, again and again, is that Joe Index beats Joseph Wall Street at least 70 percent of the time.
This information is distributed for education purposes, and it is not to be construed as an offer, solicitation, recommendation, or endorsement of any particular security, product, or service.
Photo: by Sabel Blanco
(c) A. M. Universal, 2013