5 Reasons for the index funds add to your portfolio

3:00 PM funds, index, portfolio, Reasons, vanguard No Comments

| By Daniel Solin, US News & world report

Tests according to mutual funds and ETFs passively track produce their benchmarks better returns for investors than actively managed ones.

Almost 18 years ago, Rex Sinquefield, co-founder who fund advisors, dimensional had to say this about the debate between the advocates of active and passive management: "so anyone who still believes that markets work not?" It apparently is only the North Koreans, the Cubans and the active Manager."

At that time, were only a few in the investment sector especially concerned about index-based investing. Sinquefield's comments were largely ignored. How times have changed. "Debate" has all but disappeared as the evidence in favor of the index was mounted to invest (which I like to "evidence-based investing").

You will need no further than the SPIVA means scorecard for overwhelming evidence to support the destruction of active management. In an article in the "Journal of indexes", Cletus dash, formerly Managing Director of S - & P-indexes, mentioned this "lessons learned" managed from a decade tracking the performance of the index and active funds:

Outperformance over longer periods of time.All measured a majority of actively managed funds exceed five-year cycle their indexes.

Outperformance in theorize.In the two bear markets in the last decade, a majority of actively managed funds their benchmarks was under.

No evidence of performance persistence.Dash takes the chance powerful funds looking for a prospectively with past outperformance, as an indicator of "similar or less than random expectations."

Fixed income funds fare even worse than equity.Have to dash "almost all municipal bond funds difficulties, that the S & P national AMT-free municipal bond index to beat."

Indexing works in small caps.There is no merit, the oft-repeated mantra of the active managers who can surpass it in the small-cap markets, because these markets are less efficient. Indexing works as well as for small caps for large-caps.

Investors have taken note of this information and have money in cast index funds, dealing a blow to active managers. According to a vanguard (citing data from Morningstar) at the end of 2012, assets in index U.S. domiciled mutual funds and 34 percent of shares and 18 percent of fixed income exchange traded funds accounted for funds.

A vanguard study, "The case funds invest for index for UK investors," showed that active fund managers in a range of funds for investors in the UK "have their benchmarks over most fund categories and time periods as below average." Adam Laird, a passive investment manager at Hargreaves Lansdown, commenting on the report by stating: "this study is further evidence of a sad truth-many active managers fail."

The threat of the traditional securities trading is now too big to ignore. Active Manager can not compete based on the data, and seem to be resorted to name-calling. The "debate" was sunk to new lows recently with a comment in an article in the financial times, written by David Smith, UK-based active fund managers with Hargreaves Lansdown fund managers. Smith is observed that passive management a "parasitic industry" will benefit from the activity of the active Manager. Smith observed that index funds "are only a smart strategy if you believe that active managers will keep the market largely efficient." Smith not only rejects the efficient-market hypothesis, but is "surprised" that others do not match.

Vanguard founder Jack Bogle on Smith's conflict with the finding responded: "whether markets are efficient or inefficient, is beside the point. The cost questions hypothesis is all that is necessary to explain why works indexing: gross on the market as a whole, less the costs to get back, that this return is equivalent to who will actually receive the net return investors. "

The shift of tactics by active Manager of indexing "upstarts", to ignore insults, says for investors. Presumably, if they have data to support the base for their investment strategy and living expenses, she would publish it. Investors would be well advised to focus on the evidence and the heated rhetoric.

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The hidden threat to your portfolio

4:30 AM hidden, portfolio, threat No Comments

| By Brett Arends, MarketWatch

The so-called balanced portfolio, mixing higher-volatility stocks and 'safer' bonds, is the bedrock behind most portfolio management. But it could leave you broke.

If I suggested that you hand your grandmother's retirement savings over to a cardshark in the hope that he might gamble with them on a riverboat casino, you would probably give me a very funny look.

But grandma's savings are being gambled right under her nose. And there's a good chance she doesn't have a clue it's happening.

Your grandma -- like most investors -- is likely being told by the Wall Street marketing machine that some variant on the "60/40" portfolio of stocks and bonds will see her safely through her golden years. The so-called balanced portfolio, mixing higher-volatility stocks and "safer" bonds, is the bedrock behind most portfolio management. It underpins the "life cycle" and "target date" funds that Wall Street is busy selling to all the baby boomers heading into retirement. As you get older, you are supposed to hold fewer stocks and more bonds, to reduce volatility, in a "glide path" to retirement. But the fundamental principle—that balancing stocks with bonds will help you navigate all environments—doesn't change.

I've been banging on for some time about the flawed logic behind this idea. I've noted that a balanced portfolio of stocks and bonds has failed investors miserably in the past and may do so again. Such portfolios lost money, when adjusted for inflation, in the 1940s and again in the 1970s. Stocks and bonds have only "balanced" one another when one or the other was undervalued. In 1982 both were undervalued, so investors have done very well since then. Today, however, both are almost certainly overvalued. Investors are taking a huge risk.

I hadn't realized how big that risk was until a chance meeting this week with Mark Hanus, who has just launched an independent mutual fund designed to hedge inflation risk, the Inflation Hedges Strategy Fund (INHIX). Hanus used to be at Wellington, the blue-chip Boston fund company. Before that he was a co-founder of Absolute Investment Advisers.

In the course of our conversation I looked through some investment slides which Hanus had prepared. And one struck me so hard I did a double-take.

I've missed a trick. Yes, I've already reported that "balanced" portfolios have served older investors very badly at stages in the past. But I hadn't included an additional factor -- the cost of the withdrawals those investors had to make each year.

If you held money in a portfolio of 60% stocks and 40% bonds starting in 1966 -- a year when stocks and bonds were both high-priced -- and rebalanced once a year, over the following 15 years your portfolio lost about two-thirds of its purchasing power. (So much for "safe.")

But what about if you had just retired, and you had to withdraw some money from that portfolio every year to live on?

If you withdrew 5% of the portfolio in the first year, and just increased your withdrawals each year to keep pace with inflation, something alarming happened. Within about 18 years your entire portfolio was gone. Kaput.

What killed the portfolios was rising inflation -- coupled with poor returns from both stocks and bonds.

To check the numbers, I went home and built my own spreadsheet, using returns for stocks and bonds compiled by NYU's Stern School of Business, and inflation data from the U.S. Labor Department. Result? Hanus was spot on. The portfolio was gone by 1984.

What's more, the higher the percentage of bonds you held, the sooner the money ran out.

It is yet another piece of bad news in the national retirement crisis. Many Americans are retiring with less than $25,000 in savings. They are going to need "winning" portfolios if they are to have any decent chance of a dignified old age. But right now, with bond and stock markets so high, there is every chance that the best they can hope for from here is a portfolio that doesn't lose too badly.

Gulp.

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