The article describes the paradox. The average fund manager will perform as well as the market, but they charge fees so the net return is less.
If you think you are able to pick out better fund managers, then you should be picking stocks instead. If you're unable to pick stocks, what makes you think you're able to pick managers when you are working off opaque trades and even less information?
I'm not defending asset managers but your argument sounds specious: you only need to pick an asset manager once, whereas you need to pick stocks every day or several times a day.
I can't fix my car but I can pick a garage based on reviews, etc.
You need an information advantage to pick stocks. You need to have some reason to believe you have information that the rest of the market does not (or that the rest of the market is ignoring), which lets you better estimate the future profits of the company. And then you compare that against the market price, and if the market is being irrational, trade.
If you have this, you can get by with a very small portfolio, often just a handful of stocks. And the only ongoing effort is to periodically re-evaluate whether the market has caught on to the information advantage that you're trading on. You do need to continue to keep informed, but daily trading is ridiculous.
If you do not have this, you will lose your shirt regardless of how much you diversify.
Yeah, exactly my point. You need to spend >20 hours to research a single company and will chose to invest in 1 out of 10. Those are the optimistic numbers.
So 5 stocks is 1000 hours. How many hours to learn how to do your due diligence? How many hours per month, every month to keep an eye on what is going on and optimize if necessary?
The information advantage is when you know something that's true that most people haven't yet realized to be true, often accredited to Peter Thiel. Examples from the past:
- Smartphones > dumb phones (invest in AAPL)
- more dollars spent with online ads than TV and Print (invest in GOOG)
- cloud computing is better than managing your own servers (invest in AMZN)
- eating Chipotle is a better option than McDonalds (invest in CMG)
These information advantages are not necessarily gained by spending many hours of research, but a side effect from every day living and working. Will a research analyst realize the impact of a scalable computing API more than engineers that relies on it for their careers?
A future example: If you're a programmer using Github for every job in the past 10 years, maybe buying Github stock if it IPO's wouldn't be so bad.
Only in Silicon Valley would people give Peter Thiel credit for an concept that's been around for 150 years of investing.
>maybe buying Github stock if it IPO's wouldn't be so bad.
Maybe? That doesn't sound very certain, and demonstrates how difficult it is to pick these things in advance. Do you know, or not?
I mean, it's all well and good to look back at some ideas that were good investments, in hindsight. Do you not think armies of people are trying to find "good" ideas that no one knows about? How many good ideas went nowhere?
This is exactly the thinking of the average Joe who goes to invest on the bourse and gets slaughtered. The github example is especially apt. Go to Vegas. Better odds.
We're all average Joe. "Information advantage" is a very rare thing. Even those who think they have it, probably don't. Maybe they'll learn they don't this month, maybe it will be this year. This is entirely the point of Vanguard.
My point is that you have no way of discovering whether the fund manager you're thinking of investing with actually does that research. I know a number of people who work in asset management, I used to build software for hedge funds, and I'm married to an investment professional. There is a wide variety in the quality of research they do and their standards for due diligence. Some of them will personally build relationships with the employees and suppliers of the businesses they're thinking of investing in, so that they know of potential problems before the CEO does. Others basically invest because their friends in peer companies do, with minimal diligence on the company itself. The former tend to do a lot better than the latter.
As a retail investor, you have no visibility into any of this. Most asset management companies will not let you interview their fund managers, and most fund managers won't divulge their research strategies if asked. You basically just get their pedigree and resume, which is useless.
With individual stocks, you can at least choose to put in the legwork to do your research. Or as sibling commenters have suggested, you may get it tacitly by being embedded in the same industry as the company you're thinking of investing in. Someone who works in tech and is a user of AWS is in a much better position to judge the importance of a new AWS product announcement than someone who covers Amazon as an outside analyst.
>Most asset management companies will not let you interview their fund managers, and most fund managers won't divulge their research strategies if asked.
If you have 100k to invest, better put them in the bank and don't bother with "investing".
"you need to pick stocks every day or several times a day."
The usual advice for beginners is to revise ones portofolio between long intervals, say, once per year, record the specific reasons a purchase or sale was done, and progress with patience and not running after the market.
Stocks with dividens provide an interest to ones investment regardless how their price evolves in day trading.
Wouldn't the average fund manager only perform as well as the market if the market consisted only of fund managers? The definition of average here also needs qualification -- surely it's weighted by size of assets, so one huge, poorly performing fund manager should allow for the existence of many small market-beating ones. No?
I think ignorance also plays a part. For example, I myself thought that one of the reasons for going with a decent fund manager was access to e.g. IPOs at the discount price (+ inevitable fees) that the partner bank had access to.
If you're not able to take advantage of such things, I really don't understand the appeal.
(but then - having such large sums of money that I need help investing them would be quite a nice problem to have!)
That only works if you believe the skills needed to choose a fund manager are the same skills needed to choose stocks. That's seems unlikely.
If I've consistently picked terrible stocks for years, performing at 20% less than the market, and then I meet a fund manager who has has consistently performed at 20% above the market, are you suggesting I can't know whether or not he's better than me?
Indeed. Past performance is a terrible indicator for future performance, especially for fund managers. A Morningstar study found that there is no correlation between historical performance and future performance, i.e. the top 25% of funds in one year was spread evenly across the spectrum in future years.
This was after adjusting for survivorship bias.
So, you cannot look at performance as an indicator.
For the past few years, yes you can. For the next few...?
Surely you have an idea why you picked stocks that seemed good ideas but were not. What was the missing piece of information you did not have or the missing model you were not using?
Survivorship bias may hint at you not being able to.
Whether stock picking is luck based or not, there are (almost) no fund managers currently working who performed 20% under the market over the last 5 years.
>If you think you are able to pick out better fund managers, then you should be picking stocks instead.
I'm not sure this is right. You wouldn't say that you should be designing if you think you can hire a designer. There's no reason that hiring a good fund manager is different.
For what it's worth, I'm not good at picking managers or picking stocks with my own money so I choose a parsimonious approach.
If you think you are able to pick out better fund managers, then you should be picking stocks instead. If you're unable to pick stocks, what makes you think you're able to pick managers when you are working off opaque trades and even less information?