Passive And Index Funds – Have You Done Your Research?

As part of the continual research that we do on the subject of investing, we have noticed a rising trend in financial advisers and the general public becoming more aware of passive and tracker funds.

We have been involved with this style of investing for many years now, and although it is very plain to us that it (in our opinion) is the most robust and academically proven route to investing one’s capital (as opposed to investing in alternatives, such as ‘active’ funds), it has taken some time to become more mainstream.

Now, however, there is much more coverage in the press about this way of investing, and Richard Saunders, Chief Executive of the Investment Managers Association commented recently that passive funds had experienced a 12% rise in the value of the amount of money being invested in them in 2011 as compared to 2010.

Some of the media coverage included ‘This is Money:

“Investors ditch expensive fund managers for trackers. Despite the vast amounts of money still being thrown at active fund managers, the average UK fund has been beaten over five years by ones which blindly follow the FTSE All Share.”


Then there was the meeting of the North East branch of the Institute of Financial Planning (IFP) Ray & I attended. There were some good speakers, including Tim Hale, author of ‘Smarter Investing’, whom we have met many times before.

Tim is excellent at pointing out the merits of passive funds and presented to us an example of how hard it is for an active fund to beat a passive fund on average, over time and after costs.

Remember, an active fund aims to beat the market by holding the right shares (and will often trade shares on a regular basis to try and achieve its objective).

A passive fund simply buys the market, and trades very little as it is based on a ‘buy & hold’ strategy.

Tim put a slide up that had 353 dots on it, with a 40 year time period. Each dot was an active fund, and he then clicked the button to see how many of these funds either survived this period (you don’t close a successful fund) or gave a return which could be proved to be performing above average.

Out of 353 dots, only 3 remained!

This IFP day was the day after Ray and I had been on our bi annual trip to London to attend the Dimensional Educational Seminar. This is always well attended and has a high quality of guest speakers from around the world.

One of the speakers was Amit Goyal, a Professor of the Swiss Finance Institute at the University of Lausanne. Amit is an unusual guy, as he is soaked in data but manages to make it interesting!

He is passionate about making known the truths he finds, and this particular talk was on the performance of pension funds using active fund managers.

He used thousands of data sets to show his findings, but the easiest thing to remember was simple. He said imagine there are a hundred active fund managers, and they flip a coin with, say, heads being a performance above average.

We would expect 50% of them being right. So let’s take 50 managers doing the same the next year. If we use the 50% figure, we now have 25 who have performed above average.

I think you get the drift here and what would typically happen year three and four years etc.!

Cutting to the chase, he summarised by saying that “active money management fails to fulfil its promise”.

Others would disagree we hasten to point out, but we feel that the evidence is conclusive in favour of passive and index funds to give you the best chance of investment success.

The Financial Tips Bottom Line

Be careful where you decide where to invest your money. It’s vital that you do (or have someone do on your behalf) comprehensive research so that you know you are investing in the right types of funds, assets and tax structures.


How often do you review your investments?

Have some of these been sold to you a while ago and not reviewed since?

Are your funds active funds? If so, how are they performing?

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