Index funds - can you beat the market?

[intheblack]

I'm a firm believer in index funds, with my largest shareholding being in the SPDR S&P/ASX200 fund (ASX code: STW), because I am not convinced that most of us punters can beat the market. Obviously exceptions (such as Buffett) exist, but even most professional fund managers struggle to match or outdo the index.

My questions, therefore, are: (1) Have you consistently beaten the market over recent years (see poll)? And (2) if you have an active stock-picking strategy, what are some of your criticisms of index funds?

 

[bvbfan]

My major critisism is that funds only pick stocks that have already made the majority of their gains.

I prefer to get on on the ground floor.

Each year there are a handful of companies that could return 100%+ it's a matter of finding them and at the right time

 

[prawn_86]

There are also many companies which could lose close to 100% each year

 

[Trembling Hand]

I'm a firm believer in index funds, with my largest shareholding being in the SPDR S&P/ASX200 fund (ASX code: STW), because I am not convinced that most of us punters can beat the market. Obviously exceptions (such as Buffett) exist, but even most professional fund managers struggle to match or outdo the index.

My questions, therefore, are: (1) Have you consistently beaten the market over recent years (see poll)? And (2) if you have an active stock-picking strategy, what are some of your criticisms of index funds?

I strongly disagree with this statement. An index fund has to be invested 100 % of the time. The best way to beat an index is by using the SELL button when things get hairy and getting in slowly as things have fallen in price.

It is a lot easier to run 1 mil than 200 mil. You can be in or out in seconds if you are small. Not true with the funds.

 

[RichKid]

I strongly disagree with this statement. An index fund has to be invested 100 % of the time. The best way to beat an index is by using the SELL button when things get hairy and getting in slowly as things have fallen in price.

It is a lot easier to run 1 mil than 200 mil. You can be in or out in seconds if you are small. Not true with the funds.

Daryl Guppy and others have alluded to this as well- small, private investors have an edge over the large players because they can decide when they want to trade, there are no mandates which require that they they be in the market all the time. Reminds me of the quote by Jesse Livermore:

There is a time for all things, but I didn’t know it. And that is precisely what beats so many men in Wall Street who are very far from being in the main sucker class. “There is the plain fool, who does the wrong thing at all times everywhere, but there is the Wall Street fool, who thinks he must trade all the time. No man can always have adequate reasons for buying or selling stocks daily – or sufficient knowledge to make his play an intelligent play. I proved it.”

Having said that, there is probably a place for reliable, low cost index tracking funds in a long term diversified portfolio- it gives cheap, low maintenance exposure to an asset class. But less effort can also mean average performance (but better than sub-par performance, which is what most fund 'professional' managers 'achieve', they really are mediocre).

Another benefit of index funds is their role as a low cost instrument to access markets which would otherwise be difficult to trade for the average punter (eg Ishares listed index funds for foreign markets (eg IZZ). The caveat is that not all 'index tracking' funds track the index!

....but, I digress from the initial questions in the first post.

 

[intheblack]

The best way to beat an index is by using the SELL button when things get hairy and getting in slowly as things have fallen in price.

That's perfectly true in theory, but how many of us can accurately time the market? I'm more of the view that it's time in the market, rather than timing the market, that will bring the best performance.

 

[Trembling Hand]

That's perfectly true in theory, but how many of us can accurately time the market? I'm more of the view that it's time in the market, rather than timing the market, that will bring the best performance.

With a little education, practice and patience I see no reason why someone would not be able to learn basic techniques for putting money into the market which can beat an index.
Like when you see Market corrections hit the front page of a newspaper is when I add to my super holdings. Very simple but reasonably effective. The selling is a bit harder but that holds for getting out of an index fund as well.

Not to mention the staying away from or getting rid (stoploss) of the Duds. HIH...Onetel...TLS which index funds hold.

 

[Snagglepuss]

It's worth noting too that holding an index fund long-term will generate minimal realized capital gains, and this will minimize your tax payable. And income from dividends will have franking credits attached, which is also good tax-wise. Whereas the active trader must pay tax on all profits as he goes. So the active trader must *significantly* outperform the index before tax in order to outperform after-tax.

- Snaggle.

 

[RichKid]

It's worth noting too that holding an index fund long-term will generate minimal realized capital gains, and this will minimize your tax payable. And income from dividends will have franking credits attached, which is also good tax-wise. Whereas the active trader must pay tax on all profits as he goes. So the active trader must *significantly* outperform the index before tax in order to outperform after-tax.

- Snaggle.

That's a good point Snaggle, especially for the Australian market where we have high dividend yields (compared to the US, for example). Australians also have a comparative advantage via the dividend imputation system as you mention (which is one of the reasons that Warren Buffet would prefer not to sell US stocks or pay dividends since shareholders would be taxed twice- more efficient to invest profits internally in the company).

STW (xjo tracking etf) pays divs for a nice basket of co's in one payment- would be hard to keep track of all those co's if you'd tried to replicate the index via derivatives or straight stocks. However, STW would have a higher rate of transactions, but again cheaper than the average individual doing it at retail brokerage rates. I'm not exactly sure how these etf's maintain exposure to the xjo (derivatives?). I had a quick look at the STW performance and it underperforms the XJO by a small amount even with the re-investment of dividends (see the chart here http://www.streettracks.com.au/filing/upload/upload/factsheet200.pdf?rand=301948), probably due to fees and other costs. With the benefit of franking credits some investors may actually beat the XJO via STW- just a guess. NB- In a bear market STW may actually fall further than the XJO.

One factor to note is that if you are a trader you at least have the choice of earning the cash rate while you're out of the market or you may invest it in another asset class. There's no obligation to wallow for years in a bear market as index funds are forced to do.

 

[Darc Knight]

Wow 60% of respondents to this Poll claim to beat the Index while only 20% admit to under performing.

 

[Junior]

Wow 60% of respondents to this Poll claim to beat the Index while only 20% admit to under performing.

Reverse those numbers and we might be somewhere closer to the truth.

Note this thread died just before the market shat itself. Beating the market was easy at that time....just need to jump on a few growth stocks and junior miners and you would outperform the index.