Should You Mess With A Winning Recipe?
It's only a modest exaggeration to say that you can now use an index fund to act on just about any hunch you may have on the direction of the stock market. The only problem is, that's the last thing index funds were created to do!
The idea behind indexing is that playing hunches, in the long run, is a loser's game. No investor can outsmart the market forever, and even the saviest pro's performance will eventually converge with that of some mediocre money manager.
Such an investing style may not make for very stimulating conversation following your next golf outing, but the results have been compelling. During the past decade, 82 percent of actively managed large-cap funds failed to beat the S&P 500 as tracked by the Vanguard 500 Index Fund.
This bothers mutual fund companies - not just because of what it implies about the typical fund stockpicker's skill, but also because of what it does to the funds' profit margins. So some fund companies have come out with "new" type index funds that are based on very dubious logic and are selling them not because they're useful, but because they'll sell.
Some of today's index funds can give you sticker shock, costing you as much as 1.7 percent of your investment annually, which is almost 10 times the 0.18 percent that you would pay to own the Vanguard 500 Index Fund.
And there's another reason to stop short before buying an index fund, and that's to consider an ETF. Unlike investors in conventional index funds, long-term holders of ETFs don't pay for capital gains incurred by other holders who sell their shares. Thus, ETFs run up less of a tax bill than index funds if you leave the money untouched for about five years.
Yet the ETF approach to indexing really only works if you're putting away money all at once. That's because the downside to ETFs stocklike qualities is that you have to pay a broker's commision each time you buy in (or sell). But if you dollar-cost average, then you're better off investing in a regular no-load index fund.
Dollar-cost averaging into a fund that prospers by being average. It's a simple tactic that historically has worked extremely well... So why complicate things?
* * * * *
The idea behind indexing is that playing hunches, in the long run, is a loser's game. No investor can outsmart the market forever, and even the saviest pro's performance will eventually converge with that of some mediocre money manager.
Such an investing style may not make for very stimulating conversation following your next golf outing, but the results have been compelling. During the past decade, 82 percent of actively managed large-cap funds failed to beat the S&P 500 as tracked by the Vanguard 500 Index Fund.
This bothers mutual fund companies - not just because of what it implies about the typical fund stockpicker's skill, but also because of what it does to the funds' profit margins. So some fund companies have come out with "new" type index funds that are based on very dubious logic and are selling them not because they're useful, but because they'll sell.
Some of today's index funds can give you sticker shock, costing you as much as 1.7 percent of your investment annually, which is almost 10 times the 0.18 percent that you would pay to own the Vanguard 500 Index Fund.
And there's another reason to stop short before buying an index fund, and that's to consider an ETF. Unlike investors in conventional index funds, long-term holders of ETFs don't pay for capital gains incurred by other holders who sell their shares. Thus, ETFs run up less of a tax bill than index funds if you leave the money untouched for about five years.
Yet the ETF approach to indexing really only works if you're putting away money all at once. That's because the downside to ETFs stocklike qualities is that you have to pay a broker's commision each time you buy in (or sell). But if you dollar-cost average, then you're better off investing in a regular no-load index fund.
Dollar-cost averaging into a fund that prospers by being average. It's a simple tactic that historically has worked extremely well... So why complicate things?
* * * * *
posted by Bob Moser at
6:01 PM
2 Comments:
Index funds, asset allocation, and value averaging are the way to go.
Here are some links on why Value averaging is better 95% of the time over Dollar Cost averaging.
http://invest-faq.com/articles/strat-dol-val-avg.html
http://money.cnn.com/2003/09/12/pf/expert/ask_expert/
http://www.studyfinance.com/jfsd/pdffiles/v13n1/marshall.pdf
By
erik, at 9:44 PM
Thanks Erik for another valuable contribution!
By
Bob Moser, at 5:17 PM
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