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duskdawns · 09-19-2009, 04:43 PM

Passive vs. active management is an ongoing debate for which there is no resolution. There are risks and benefits to both types of funds.

Why do high- and ultra-high net worth clients, endowments, pensions invest with asset management companies if index funds are the only way to go? Guys like Bill Gates and Michael Dell have investment companies, Cascade Investment and MSD Capital, that exclusively invest their fortunes. Abigail Johnson (Fidelity Investments), George Soros (Soros Fund Management), David Shaw (D.E. Shaw), John Templeton (Franklin Templeton), and Warren Buffett (Berkshire Hathaway) did not become billionaires by adhering only to index fund investing. (John Bogle, the index fund guru, did not make the recent Forbes lists of 400 richest Americans nor the World’s Billionaires, unlike the others mentioned above- with the exception of Templeton who is deceased. Although Bogle is plenty rich from the steady revenue stream from investors pouring into index funds.). There are other investing styles, such as value and growth that should also be taken into consideration.

http://www.forbes.com/2009/03/11/wor...ires_land.html

For instance, an S&P index fund misses out on opportunities that can arise from bargain-hunting/arbitrage, geography, small-cap/mid-cap, sectors not covered by a broad market index, socially-responsible investing, flexibility to re-calibrate portfolio composition in anticipation of or response to market volatility and business conditions, etc. It’s one slice out of a whole pie. Using a combination of index funds does diversify it somewhat, but only up to a point. There still is no diversification in terms of investing style and other factors. Moreover, the stance that an index fund will have good positive returns is critically dependent on the timing of the investor’s entry into and exit from the investment.

Even Vanguard, the pioneer of the Index fund, has a section on their website titled:

How index and active funds can work together
Index funds and active funds can complement each other in your portfolio.

https://personal.vanguard.com/us/wha...ive?Link=facet

One blogger wrote here how Vanguard has actively managed funds that beat their S&P 500 index fund:

http://steadfastfinances.com/blog/20...00-index-fund/

A reason for the difference in opinions is that your frame of reference is from a historical perspective, looking back at investing from 30+ years ago to now. The two of you are either retired or nearing retirement, so naturally will tend to be risk averse (and also are not new investors in the stock market). Those in similar situations should have considerably reduced exposure to stocks, less and less as your retirement date approaches.

In contrast, those who will retire after Social Security is insolvent will need to be more aggressive (but not reckless) in their long-term strategy. My viewpoint is a future-oriented perspective, going forward from the present through the next 30-50 years.

There are few truly new stock investors in their 50s-60s (who should be gradually exiting from the stock market, not entering), maybe some in their 40s (most will already be in there somehow via a 401K or IRA), while the vast majority of first-time stock investors will be in their 20s-30s. For them, an index fund is merely a starting point, not the be-all, end-all in their investment portfolio.

Additionally, risk tolerance (low-risk, lower reward or loss; high-risk, higher potential reward or loss—stocks, even in an index fund, are a not risk-free asset) is a very individual trait. I consider myself to be on the conservative side (I guess I’m at the high-end of the conservative perhaps low-end moderate, whereas you two are at the low-end of the conservative spectrum). I would not go near high-yield bonds or derivatives, though there are some people who do and that’s why they are aggressive, investment-wise. And then there is a group that falls in the moderate category.

Furthermore, another basis for the difference in opinion is due to the incipient shift in the investment paradigm. In the 20th century, the US was the preeminent economy and home to the foremost financial markets in the world. While the US is still in the lead, the situation is in flux in the 21st century.

This is the beginning of the Emerging Markets Century (posits Antoine Van Agtmael, former World Bank economist in his enlightening book), and investors should branch out into Asia, Latin America, and the stock markets of other emerging markets, as well as Europe.

Like it or not, China will become the world’s largest economy at some point this century. Just as the Chinese economy is expected to overtake US economy, projections range from 2025-2035, so will the stock markets.

Mark Mobius, executive chairman of Templeton Asset Management, oversees about $25 billion in emerging-market assets. He said this summer that “China’s stock market may surpass the U.S. as the world’s largest by value in 3 years.” Regardless of the number of years it will take, inevitably it will happen.

As of July data, the Standard & Poor’s 500 Index has gained 4.1 percent in 2009, while China’s Shanghai Composite Index has soared 75 percent this year. “The MSCI [Morgan Stanley Capital International] Emerging Markets Index of equities in 22 countries has climbed 38 percent this year. That compares with a 6.8 percent gain for the MSCI index of developed markets.”

How is the aforementioned relevant to the index fund vs. actively managed fund discussion?

Jim Rogers, co-founder of the Quantum fund with George Soros, realized gains of 4200% in his international fund as compared to 47% for the S&P, after which he retired to travel the world on motorcycle.

In Jim’s words, "If you were smart in 1807 you moved to London, if you were smart in 1907 you moved to New York City, and if you are smart in 2007 you move to Asia." He moved from NYC to Singapore, as have many investment professionals and financial institutions flocked to Asia.

Burton Malkiel (A Random Walk Down Wall Street; From Wall Street to the Great Wall) has said that in certain emerging markets, it is better to have a managed fund than an index fund because they can be inefficient.

For numerous reasons including the lack of transparency, the different accounting practices in China, Asia, Europe compared with US G.A.A.P. and whatnot (it’s complicated and would take too long to go into detail), China is one country where an investor would benefit from a portfolio manager who has connections to and direct information from company management to assess when picking the stocks and building the fund than from following an index fund, which can be subject to the whims of market hype and gyrations and carry more risk than a managed fund.

India, Brazil, Russia, Mexico, South Korea and other emerging markets stock markets are other financial markets in which a guided hand is probably better than a passive style.

An article about investing in India making the case for why a managed fund might be better than an index fund here:

http://business.rediff.com/report/20...uity-funds.htm

As the US (and developed markets) share of the total global stock markets falls and the percentage for emerging markets rises, an investment portfolio will correspondingly become overweight and underweight in those categories. Given an investment time horizon spanning the forthcoming 30-50 years and more, if the US portion is 50% and emerging markets 50%, for the sake of simplicity, do you really want your entire portfolio to be 100% in an index fund knowing full well that at least half will likely be better off in a managed fund?

Therefore, I think investors should not only have US and international equities in the stock portion of their investment portfolio, but also I believe they should probably incorporate both active and passive investing styles (as does Vanguard, the index fund proponent) over the long-term, especially in light of the economic and financial dynamics in this century.

Check Morningstar for a comparison of index returns:

http://news.morningstar.com/index/in...ion=IdxReturns

Look here and you will see some trends in mutual funds:

http://www.morningstar.com/allanalys...s.html?type=FO

In conclusion:

Read this book, if you want, then read more books/websites/magazines/newspapers, do your research, discuss with your financial advisor(s), and tailor your investment decisions to your goals, circumstances, timeframe and personality. Just remember to diversify and employ asset allocation and re-adjust your holdings over time.

P.S.
Like medicine and law, finance is very broad with many specialties within that field, variations across industries and complex nuances in the practice thereof. Being a CFO of a publishing company or consumer goods or pharmaceutical firm or family business or start up or multinational corporation or non-profit organization is not entirely the same as being the Oracle of Omaha, otherwise known as the head of Berkshire Hathaway and the #2 richest man in the world this year (#1 last year). Which I’m not. What I will say is that my friends, classmates, relatives and myself have work experience at Wall Street/Financial District, the Federal Reserve, investment banks, hedge funds, asset management, private equity and other financial firms and have degrees from the top 30 schools on this list of 100:

http://rankings.ft.com/businessschoo...l-mba-rankings

I would venture a guess that almost none of us would subscribe to an index fund only investment philosophy. Quite a number are bigger risk-takers than me, and that’s reflected in their disproportionately higher net worth. It’s no small feat for someone in their 20s-30s to hit a million+ when many older adults haven’t even done that. They do have the advantage of learning from respected investment pros who are worth tens and hundreds of millions, which definitely plays a role in honing their insight, expertise and success. I am a total layperson/underachiever in comparison with those in my network of overachieving outliers, who can make this case way better than I can.

Sigh. Next time someone laments not having any comments or activity in a thread, I think I may just ignore and not respond.

But I did feel compelled since Bluesman referred to “those whom this book will most benefit”, who will for the most part be novice investors in my generation and the ones following and not in Bluesman’s or Doreenjoy’s generation. They need to hear all the varying perspectives to make their own judgment rather than rush to conform to your biases against managed funds, whether it is by themselves or in conjunction with index funds. [Another issue is that with more babyboomers retiring, there is a smaller population for them to sell their shares to when they liquidate. Down the road, even with foreigners buying US stock (index) funds, and who knows if the government will impose limits, there may wind up too may sellers with respect to buyers. When demands falls, price will too. But I digress…] So there is some degree of generalization and fallacy in assuming that index funds will have a high return on investment in the future. Maybe, maybe not. Some of the hitherto prevailing theories in investment will stay the course and some will become obsolete. Investment geniuses (not me) will develop new models and strategies for this century.

Hence their conviction in index funds may be fine for those who will stay in the stock market within the next 5 years give or take, but may not be applicable to novice investors who will be participating in the markets through 2050 and beyond, ostensibly the target audience of this ebook. They’re entitled to their opinions and their prerogative to invest strictly in index funds; I’m entitled to my opinions (everything I’ve written is just my opinion) and my right to invest in both index funds and managed funds. Whatever works for you.

THE END.

09-19-2009, 04:43 PM	#11
duskdawns Enthusiast Posts: 42 Karma: 840 Join Date: May 2009 Device: none	Passive vs. active management is an ongoing debate for which there is no resolution. There are risks and benefits to both types of funds. Why do high- and ultra-high net worth clients, endowments, pensions invest with asset management companies if index funds are the only way to go? Guys like Bill Gates and Michael Dell have investment companies, Cascade Investment and MSD Capital, that exclusively invest their fortunes. Abigail Johnson (Fidelity Investments), George Soros (Soros Fund Management), David Shaw (D.E. Shaw), John Templeton (Franklin Templeton), and Warren Buffett (Berkshire Hathaway) did not become billionaires by adhering only to index fund investing. (John Bogle, the index fund guru, did not make the recent Forbes lists of 400 richest Americans nor the World’s Billionaires, unlike the others mentioned above- with the exception of Templeton who is deceased. Although Bogle is plenty rich from the steady revenue stream from investors pouring into index funds.). There are other investing styles, such as value and growth that should also be taken into consideration. http://www.forbes.com/2009/03/11/wor...ires_land.html For instance, an S&P index fund misses out on opportunities that can arise from bargain-hunting/arbitrage, geography, small-cap/mid-cap, sectors not covered by a broad market index, socially-responsible investing, flexibility to re-calibrate portfolio composition in anticipation of or response to market volatility and business conditions, etc. It’s one slice out of a whole pie. Using a combination of index funds does diversify it somewhat, but only up to a point. There still is no diversification in terms of investing style and other factors. Moreover, the stance that an index fund will have good positive returns is critically dependent on the timing of the investor’s entry into and exit from the investment. Even Vanguard, the pioneer of the Index fund, has a section on their website titled: How index and active funds can work together Index funds and active funds can complement each other in your portfolio. https://personal.vanguard.com/us/wha...ive?Link=facet One blogger wrote here how Vanguard has actively managed funds that beat their S&P 500 index fund: http://steadfastfinances.com/blog/20...00-index-fund/ A reason for the difference in opinions is that your frame of reference is from a historical perspective, looking back at investing from 30+ years ago to now. The two of you are either retired or nearing retirement, so naturally will tend to be risk averse (and also are not new investors in the stock market). Those in similar situations should have considerably reduced exposure to stocks, less and less as your retirement date approaches. In contrast, those who will retire after Social Security is insolvent will need to be more aggressive (but not reckless) in their long-term strategy. My viewpoint is a future-oriented perspective, going forward from the present through the next 30-50 years. There are few truly new stock investors in their 50s-60s (who should be gradually exiting from the stock market, not entering), maybe some in their 40s (most will already be in there somehow via a 401K or IRA), while the vast majority of first-time stock investors will be in their 20s-30s. For them, an index fund is merely a starting point, not the be-all, end-all in their investment portfolio. Additionally, risk tolerance (low-risk, lower reward or loss; high-risk, higher potential reward or loss—stocks, even in an index fund, are a not risk-free asset) is a very individual trait. I consider myself to be on the conservative side (I guess I’m at the high-end of the conservative perhaps low-end moderate, whereas you two are at the low-end of the conservative spectrum). I would not go near high-yield bonds or derivatives, though there are some people who do and that’s why they are aggressive, investment-wise. And then there is a group that falls in the moderate category. Furthermore, another basis for the difference in opinion is due to the incipient shift in the investment paradigm. In the 20th century, the US was the preeminent economy and home to the foremost financial markets in the world. While the US is still in the lead, the situation is in flux in the 21st century. This is the beginning of the Emerging Markets Century (posits Antoine Van Agtmael, former World Bank economist in his enlightening book), and investors should branch out into Asia, Latin America, and the stock markets of other emerging markets, as well as Europe. Like it or not, China will become the world’s largest economy at some point this century. Just as the Chinese economy is expected to overtake US economy, projections range from 2025-2035, so will the stock markets. Mark Mobius, executive chairman of Templeton Asset Management, oversees about $25 billion in emerging-market assets. He said this summer that “China’s stock market may surpass the U.S. as the world’s largest by value in 3 years.” Regardless of the number of years it will take, inevitably it will happen. As of July data, the Standard & Poor’s 500 Index has gained 4.1 percent in 2009, while China’s Shanghai Composite Index has soared 75 percent this year. “The MSCI [Morgan Stanley Capital International] Emerging Markets Index of equities in 22 countries has climbed 38 percent this year. That compares with a 6.8 percent gain for the MSCI index of developed markets.” How is the aforementioned relevant to the index fund vs. actively managed fund discussion? Jim Rogers, co-founder of the Quantum fund with George Soros, realized gains of 4200% in his international fund as compared to 47% for the S&P, after which he retired to travel the world on motorcycle. In Jim’s words, "If you were smart in 1807 you moved to London, if you were smart in 1907 you moved to New York City, and if you are smart in 2007 you move to Asia." He moved from NYC to Singapore, as have many investment professionals and financial institutions flocked to Asia. Burton Malkiel (A Random Walk Down Wall Street; From Wall Street to the Great Wall) has said that in certain emerging markets, it is better to have a managed fund than an index fund because they can be inefficient. For numerous reasons including the lack of transparency, the different accounting practices in China, Asia, Europe compared with US G.A.A.P. and whatnot (it’s complicated and would take too long to go into detail), China is one country where an investor would benefit from a portfolio manager who has connections to and direct information from company management to assess when picking the stocks and building the fund than from following an index fund, which can be subject to the whims of market hype and gyrations and carry more risk than a managed fund. India, Brazil, Russia, Mexico, South Korea and other emerging markets stock markets are other financial markets in which a guided hand is probably better than a passive style. An article about investing in India making the case for why a managed fund might be better than an index fund here: http://business.rediff.com/report/20...uity-funds.htm As the US (and developed markets) share of the total global stock markets falls and the percentage for emerging markets rises, an investment portfolio will correspondingly become overweight and underweight in those categories. Given an investment time horizon spanning the forthcoming 30-50 years and more, if the US portion is 50% and emerging markets 50%, for the sake of simplicity, do you really want your entire portfolio to be 100% in an index fund knowing full well that at least half will likely be better off in a managed fund? Therefore, I think investors should not only have US and international equities in the stock portion of their investment portfolio, but also I believe they should probably incorporate both active and passive investing styles (as does Vanguard, the index fund proponent) over the long-term, especially in light of the economic and financial dynamics in this century. Check Morningstar for a comparison of index returns: http://news.morningstar.com/index/in...ion=IdxReturns Look here and you will see some trends in mutual funds: http://www.morningstar.com/allanalys...s.html?type=FO In conclusion: Read this book, if you want, then read more books/websites/magazines/newspapers, do your research, discuss with your financial advisor(s), and tailor your investment decisions to your goals, circumstances, timeframe and personality. Just remember to diversify and employ asset allocation and re-adjust your holdings over time. P.S. Like medicine and law, finance is very broad with many specialties within that field, variations across industries and complex nuances in the practice thereof. Being a CFO of a publishing company or consumer goods or pharmaceutical firm or family business or start up or multinational corporation or non-profit organization is not entirely the same as being the Oracle of Omaha, otherwise known as the head of Berkshire Hathaway and the #2 richest man in the world this year (#1 last year). Which I’m not. What I will say is that my friends, classmates, relatives and myself have work experience at Wall Street/Financial District, the Federal Reserve, investment banks, hedge funds, asset management, private equity and other financial firms and have degrees from the top 30 schools on this list of 100: http://rankings.ft.com/businessschoo...l-mba-rankings I would venture a guess that almost none of us would subscribe to an index fund only investment philosophy. Quite a number are bigger risk-takers than me, and that’s reflected in their disproportionately higher net worth. It’s no small feat for someone in their 20s-30s to hit a million+ when many older adults haven’t even done that. They do have the advantage of learning from respected investment pros who are worth tens and hundreds of millions, which definitely plays a role in honing their insight, expertise and success. I am a total layperson/underachiever in comparison with those in my network of overachieving outliers, who can make this case way better than I can. Sigh. Next time someone laments not having any comments or activity in a thread, I think I may just ignore and not respond. But I did feel compelled since Bluesman referred to “those whom this book will most benefit”, who will for the most part be novice investors in my generation and the ones following and not in Bluesman’s or Doreenjoy’s generation. They need to hear all the varying perspectives to make their own judgment rather than rush to conform to your biases against managed funds, whether it is by themselves or in conjunction with index funds. [Another issue is that with more babyboomers retiring, there is a smaller population for them to sell their shares to when they liquidate. Down the road, even with foreigners buying US stock (index) funds, and who knows if the government will impose limits, there may wind up too may sellers with respect to buyers. When demands falls, price will too. But I digress…] So there is some degree of generalization and fallacy in assuming that index funds will have a high return on investment in the future. Maybe, maybe not. Some of the hitherto prevailing theories in investment will stay the course and some will become obsolete. Investment geniuses (not me) will develop new models and strategies for this century. Hence their conviction in index funds may be fine for those who will stay in the stock market within the next 5 years give or take, but may not be applicable to novice investors who will be participating in the markets through 2050 and beyond, ostensibly the target audience of this ebook. They’re entitled to their opinions and their prerogative to invest strictly in index funds; I’m entitled to my opinions (everything I’ve written is just my opinion) and my right to invest in both index funds and managed funds. Whatever works for you. THE END.