The Lessons of Really Long Term Investing  

The longer the time period, the better index investing looks.

I learned this while doing a new examination of mutual fund performance. In it, I learned that the Vanguard 500 Index fund ranked 46^th of the 306 domestic equity funds with 20 year track records. That means it did better than 85[i] percent of its competitors.

And that’s only counting the surviving competitors— some of the funds in operation twenty years ago were quietly liquidated to prevent further embarrassment to their management companies.

Twenty years is a long time.

While most of us will be investing for at least twice that long, investment data sources often treat 10 or 15 years as long term. Morningstar Reports, the Rosetta stone for a generation of investors, shows fund performance out to 15 years in its regular reports.

In a way, this isn’t surprising. Only 580 of the current 8,187 domestic equity funds existed 15 years ago. In addition, the average tenure of a portfolio manager is only 3.8 years.[ii] For most of the funds we are offered, examination of long-term performance may be either irrelevant or impossible.

The long term, however, is still what really counts. We can get to it by using some of the advanced[iii] features of Morningstars’ database.

Measured in dollars, the 12.93 percent annualized return of the Vanguard 500 Index fund (excluding any taxes) would have turned $10,000 into $113,811. Not a bad trick for being cheap and passive instead of active and clever.

The result brings up a tough question: what are the odds that anyone— anyone— would have been able to pick a better performing fund?

My answer: Not very good. The odds that you or I could do it, then or now, are very poor. Sadly, the odds that a commission compensated advisor could do it are worse.

This has nothing to do with competence. It has everything to do with what’s on the menu. Many of the funds that did better than the index choice were no-load or low-load funds. All four of the low-load funds, for instance, were Fidelity offerings: Fidelity Select Healthcare, number 1 on the chart below with a 17.87 percent return for 20 years, Fidelity Select Financial Services, number 3 with a 16.39 percent return, Fidelity Contrafund, number 9, with 15.43 percent, and Fidelity Magellan, number 10, with 15.42 percent.

Another 23 funds were no load funds. Since they are not distributed through brokerage firms they would not have been on the “menu” of choices a registered representative could have offered.

Of the 45 domestic equity funds that did better than the Vanguard 500 Index, only 18 were load funds. So there was about a 6 percent chance (18 out of 306) that a load fund would have done better than the mother of all index funds. Those aren’t very good odds.

This doesn’t mean you were doomed to poor performance if you went through an advisor.  New York Venture fund, now called Davis New York Venture, had a good reputation 20 years ago and has returned 15.75 percent for the period, ranking 5^th. Similarly, the American Funds group looms large on the list. Four of their funds did better than the index— Washington Fund, 22^nd at 14.16 percent; Fundamental Fund, 26^th at 14.01 percent; Growth Fund, 29^th at 13.94 percent; and Investment Company of America Fund, 31^st at 13.84 percent. As I have pointed out many times, brokers who put their clients in these funds—and kept them in— served their clients well.

The most important observation, however, isn’t about whether funds have loads, low loads, or no load. It is about whether they are managed or passive. Enter the active management game, with or without a broker, and the odds are against you. Since we are talking about investing for retirement, not about taking a flyer on the lottery, our ‘bet’ should be on the choice with the best chance for success: index investing.

A rank ordered table of the long-term top 20 percent of domestic equity funds is shown below.

Tuesday: Index Investing and the Future

Source: Morningstar Principia, 9/30/2002 data

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.

Image by Nattanan Kanchanaprat from Pixabay

(c) Scott Burns, 2022