Investing is a zero-sum game. Every share of every company is owned. For example, every share of IBM is owned by someone. On average investors as a group are going to make what the index makes. If you take expenses into account, the average investor makes the return of the market minus expenses. Most investors will actually under perform the market and it becomes a negative sum game, rather and a zero-sum game.

Nearly ¾ of active managers were beaten by S&P 500 index funds over past 5 years. If you look over the past 20 years the average equity fund was outperformed by the S&P 500 index fund by 100 bps. In 1970 there were 358 mutual funds, through 2007 241 did not survive. 117 made it to 2007. The information is skewed by survivorship bias, the vast majority of surviving funds vastly underperformed. The number of funds that beat the market by 2% or more is 5 or less. There will always be a Warren Buffet who stands above, but odds are that you will become one of the lesser performers in the market.

You shouldn’t have your entire portfolio indexed. Telling everyone to index is like telling a six year old that there is no Santa Clause. Even Burton Malkiel does not index all of his money. You should implement a core-satellite model. Index the core and add satellites to hopefully add alpha.



Notes from a call hosted by Burton Malkiel, author of A Random Walk Down Wall Street.