Professor Ken French has estimated that $80 billion per year is transferred from the pockets of investors to brokers and active fund managers. Others, including Vanguard founder John Bogle, have estimated that the majority of the investment returns provided by the financial markets are skimmed off the top by the mighty Wall Street marketing machine. What should rational and reasonable investors do? How can you avoid wealth destruction?
Can You “Beat the Market”?
Wall Street and most of the financial media make their living off fostering the belief that forecasts or timing can help investors to “beat the market”. No evidence exists that this can be consistently done…yet most investors continue down this dark path. After costs (which often are substantial), the investment returns, on average, from actively managed funds (those funds dependent upon prediction, timing or luck), will be less than the returns from passively managed funds (funds seeking the returns provided by the asset class). This holds true for any time period and is simple mathematical fact, not just theory.
The way to avoid wealth destruction is to invest broadly in different asset classes using low-cost, passive funds. There is both a return advantage as well as a risk advantage to this approach. Passive/asset class investing provides actual diversification, not just the impression of diversification. Most actively managed funds contain only a few dozen stocks versus several thousand securities in a properly diversified portfolio.