Nevada’s public employee pension fund invests passively and beats peers (2016)
wsj.com
wsj.com
I ignore the Fidelity calls. Every time a new broker rotates in, they try to get me to move my money around.
I contributed 50% to a bond fund, as well, but that is like, 10% of the total, nowadays.
That's one of the ridiculous aspects of fixed-percentage allocations: by constructions those allocations tell you that you should get rid of the things that are making you the most money, and put it into the things which are underperforming instead. (I get that you didn't do that, I'm just got reminded of it.)
It still makes more than I spend, but we’ll see what the future brings.
And in hindsight it’s almost always suboptimal.
But saving in some remotely rational and diversified way is better than not saving at all even if some bets turn out to be better than others.
Following this advice today is tricky thanks to the persistent yield inversion: you obviously can't improve returns by using short-term borrowing at 5% to invest in long-term bonds at 4%.
Under current conditions, that allocation is more questionable. The yield inversion means that the expected value of a leveraged bond investment is about zero (borrowing at a higher short-term rate to lend at a lower long-term rate), so any portfolio gains come from anti-correlation of bond and stock prices. However, the current market worry is more about stagflation than a traditional recession, such that inflation leads to both higher interest rates and lower equity returns (through equity de-leverage).
A never once, did I am read any sensible long-term retail strategy that recommended the use of leverage, let alone persistent leverage. This is a strange post.
What does your portfolio look like?
The stock market has never not outperformed bonds over a 45 year period, maybe even half that, so if you’re 20 and putting 40% of your savings in an account you can’t touch until your 65, you’re kind of just chucking money down a well right?
Not really. The most risk-efficient strategy optimizes the ratio between expected return (less the risk-free rate) and volatility (standard deviation), regardless of the absolute value of those parameters.
If that optimal allocation has too much risk, such as for the near-retiree, then the investor can keep a fraction of their portfolio in the mix and the other half in cash (money market, paying the risk-free rate). If the allocation has too little risk, then the inverse applies: borrow on margin (at approximately the risk-free rate) to invest more than 100% of net assets into the mix.
Ending up at 60/40 might be a good plan, but starting there seems a waste of money.
Once you are close to needing some amount of money, say X a year, then you don't have time for that X to recover, so the idea is to move X into a safer investment so it won't go up or down. Any money you don't need is still in aggressive options that have time to recover. Now you need X money every year, so you decide how many years you want to sacrifice growth for safety. Maybe 5 years, maybe 10 years. Call it Y years. Simulations show the historic optimal Y, though I don't recall the exact number and some people might want to gamble depending upon how much freedom they have to change X if needed. So X*Y is roughly the amount of money that needs to be in safer investments.
This all ends up being too complicated a math equation to optimize for the average person, so percentages are given that are much easier to follow which roughly work as a solution to this equation.
Individuals should be able to come up with their own plans based on what they want. For example, if I'm heading towards an early retirement, I might leave all my money in aggressive investments because if a market downturn hits, I'm okay with working a few more years before retiring. I'm also aiming for a retirement with big X spend a year, but have plans on how to live life if I have to move down to medium X or small X. Others might be aiming for a retirement of X and won't be able to make finances work with les than X, so they have to take a much safer approach to guarantee a retirement that doesn't lead to running out of money.
By having a fixed percentage portfolio you are forcing yourself to sell high and buy low.
This was also the only basic strategy that mathematically beats the market based on papers I read during undergraduate (there may be others now). Basically, by splitting investments among higher and lower investments that are out of phase you can make sure that you are moving money out of an investment before it falls and into it before it rises.
What I find interesting is that the advantage only works with discrete periods of rebalancing. Instantaneous rebalancing doesn’t provide any advantage. I do not understand why but I saw a paper that showed that being able to take advantage of phase shifts in nearly correlated signals goes to zero as delta t goes to zero.
Yes, and the things you sell high are the ones that performed well in the past, so you'll have less of those in the future, which is what I said. I'm not thinking about anything backwards.
I’m having a hard time finding the paper around instantaneous rebalancing eroding the effects (or any good papers atm). But you can model this very easily. You can take 2 signals that randomly walk up or down. One at a “high apr” and one with a “low apr”. I’m not sure if it matters, but typically I’d expect the lower apr to have lower variance of the 2. Most of the literature around rebalancing assumes lower volatility of at least one asset class, but I’m not convinced it’s necessary from some of the math I’ve seen. You may need to add an assumption of correlation between the 2. Be sure to include code that if a signal reaches 0 it stays there. Be sure to backtest as well. Few strategies work in a bear market, but rebalancing is expected to still outperform when markets go down.
Kelly criterion is another thing to look up. It’s a mathematical look at betting stategies and what’s the biggest bet you can afford to make in the long term given that no bet is 100% gauranteed.
Bonds give you cash later. Cash loses value over time.
Stocks give you a participation in the best companies in the world.
Bonds versus S&P I know which one I'm holding. Good luck with your thing.
In fact, high performing equities if anything tend to fall and regress to the mean.
Ok, honest question. Have you ever looked at the S&P, say over 50 years? Just simple yes or no.
It’s pretty clear high performing company don’t maintain it.
No, you haven't.
Because if you did, you woulnd't be looking at an exponential and saying "but but but it reverts!!!!"
The answer is there are none. Company tend to have stretches of very high returns, followed by flat or decreasing periods.
So what most people do - buy a stock that has already gone up a lot, are basically buying high and selling low.
I have an inherited IRA that I am required to take mandatory withdrawals from; I keep part of it in bonds so that I don't have to sell my stock funds when they're down.
which is fine, but you're just adding administrative burden on yourself.
The bond fund is doing exactly what you're trying to achieve, except that they reinvest the bond capital back into new bonds when they mature. You get the coupon payment as income, and you sell the bond fund when you want capital back.
The price of the bond fund is a reflection of the value of the bond at market prices - exactly as if you would yourself, if you held the bond directly, and wanted to sell before maturity.
You might eek out a tiny bit of efficiency due to lack of fund fees you pay, if you held bonds yourself - but then the administrative burden you have to do yourself is going to cost just the same imho (via time taken for example).
Portfolio re balancing, like ETFs is one of those things that has been shown to work over time in many studies. ETFs re balance. The stock / bond ratio was an early form of "automatic" investing.
39 cents per transaction is hard to beat.
The lump sum of cash on the sideline gets you 4.83% on IBKR (as long you have $100K+ on he sidelines). Cash secured puts you sell bring you yield on the USDs securing the put.
Financial reports they make are top Noth and entirely configurable.
How did you manage to not lose money in 2022? Almost every asset class was negative then.
Admittedly my choices for stocks are a bit on the high-risk side, but it's worked out well so far. Picking up lots of AMD in 2017, and Rivian 6 weeks ago, seems to have been decent calls.
It seemed quite logical to me at the time that they would do well. This was right as Intel was being savaged by Meltdown and the performance hits of the mitigations and Zen 1 was successful.
This is why people opt for low fee index funds, like a total stock market fund. It'll always be in the right companies.
I picked some winners, like Microsoft / Google, both up 150%, but they're tiny fraction of my total portfolio, so hardly returned anything all counted up. I did 170% at one point with Tesla too, but didn't sell at the peak. So ended up with 4.4%p.a. over 5 years.
Save to say I don't stock pick anymore and just buy VTI (kinda like VOO) and some VT.
But for someone who is 20something and begins placing $€200 per month in SP500 (preferably somewhere with the lowest possible fees), and does so every month for all the years he/she works, then there is a very nice surprise waiting for them (and their kids) later in life.
Keep in mind, investment funds don't die like our pensions, they are transferred 'down'. So even if someone has e.g. 200k when they have kids, by the time those kids turn 21, that 200k would have turned to 0-7yo 200k->400k, 7-14yo 400k->800k, 14-21yo 800k->1600k. It needs discipline and consistency though.
I'm under no illusion that this will continue going forward.
There's a section where you can check the "Time-weighted rate of return", basically removing the effects of deposits and withdrawals. Their wiki says this is usually the best figure to compare portfolio performance.
Over that time, my performance has been 337%. The performance of the FTSE All-World Acc has been 67%.
Apparently I'm _massively_ outperforming the world market, which I'm a little suspicous of. I'm mostly invested in tech since I'm a software engineer - I got real lucky with both ARM and AMD, investing days before they skyrocketed, but also got good returns from TSMC (took ages though), Coinbase, and Games Workshop.
If you were a Pension fund in France, Australia, UK, Japan, China etc and put all your money in the local passive index tracker you'd maybe double your money in the last 20 years but way under perform S&P which is like 6x in that period.
Is this a controversial opinion? The most I could say without feeling like a total liar is: It is probably random around some signal, and that signal is indirectly affected by economic policy in ways that are itself not perfectly deterministic. Is it I who is out of touch?
Whenever I'm tempted to buy individual high performing tickers (e.g. NVDA, TSLA, AMD), I restrict the purchase to no more than 2% of my portfolio and I only allow myself to bet on 2-3 "race horses" at a time. I think this fulfills the desire to gamble a little and see 100-200% YoY returns. NVDA cracked 300% cost basis when I finally sold, which is wild.
The reason I can do this is because the rest of my portfolio is a boring mix of low-fee ETFs that track major US and international indices. As a retail investor, it's good to remind myself that if I actually had the skills to invest professionally, someone would probably be paying me to do it for them.
Having 5% to personally assign can scratch that itch without resulting in an overexposed or vulnerable position
I do something similar but honestly allow too much to go towards the latter. I need to pair back. I am thankful and lucky that my returns have been similar to index funds and not far below (thanks NVDA and NET)
Don't discount the knowledge you have from being deep into an industry. The higher quality of the CUDA toolkit compared to other SIMD languages, combined with it's increasing relevance in compute (gaming, followed by blockchain, followed by ML, followed by GPT) would have made this an NVDA an easy pick for anyone (of the increasing number of people) that worked in parallel computing from 2006-2023.
Sometimes you can see a company is positioning itself for a great long term position before the entire wallstreet herd takes notice. That's when you add a single stock as part of your diverse portfolio. I keep up to 5% of my stock portfolio as these single stock picks, judged entirely on the product the company sells.
It's worth emphasizing that investing in the same sector that you are employed-in is actually a kind of anti-diversification, and it won't usually show up using "rate my portfolio" tools.
The archetypal example that comes to mind--unusually extreme but illustrative--would be all those Enron employees who invested their 401(k) funds straight into their own employer.
Consider these three scenarios:
1. If your investments plummet but you keep getting wages from you job, you can try riding it out until they recover.
2. If you become long-term unemployed but your investments stay normal, you can sell a little to cover the gap.
3. But if you can't work and your investments plummet, you may be forced to "sell low" quite a lot to cover immediate expenses, and the long-term outcome is much worse.
2. You can avoid the sell low situation by having 3-6 months of expenses saved in an emergency savings account. With all the layoffs in the last few years everyone should have gotten the message to do this. Even in a large downturn six months of expenses in a savings account is enough for you to re-skill and find new employment.
The people who held onto their RSUs from being hired at Zoom during the height of the pandemic might not be so happy they chose to double down on their employment risk with investor risk.
Also, an agenda that is rational for one party may be irrational for the other.
Many employers would be overjoyed if their workers agreed to be paid 100% in deferred-vesting RSUs and converted all their private savings into pure company stock. It would both drive the price up and shackle workers to certain company interests.
But if an employee sought the same outcome, we'd question their sanity.
For certain companies, but misleading: Most of that is stock which their employer structured into compensation, and sometimes they only kinda-maybe-potentially own it because it's an unvested RSU or un-exercised stock-option etc.
That's not the same as taking your paycheck and then choosing to spend part of it on shares from the open market.
It's actually not. The tech industry is much bigger than startups and the like, and outside of that environment it's not normal to own a lot of stock in your employer.
> You can avoid the sell low situation by having 3-6 months of expenses saved in an emergency savings account.
They probably are, in a literal sense. Most people play status games and identify that money is a resource that can be used to buy higher status. They then work out how to spend all their money on status-boosting activities because they don't want money. They want status. And they want it ASAP because their instincts are confident that status now is more important than later.
It is a bit sad because it means they are less comfortable and prosperous later on, but there is not much that can be done. Human nature is a real obstacle; it isn't calibrated to understand exponential returns or capital investment.
But the top 5% in the US make 300k+. If you can't save anything making 300k you have a spending problem. Honestly I'd you're making 100k can can't save you have a spending problem.
If you don't, you are screwed either way.
We never really teach these things, which is a shame because I think they have such value over time.
I've spent a lot of time helping people with budgets and I've found a few things to be common. To make this easier I'll just say "people" as a general thing of those coming for help.
1. People don't get why they're running out of money
2. They don't know what they're spending
3. They've not connected the idea that knowing what they're spending money on is important to figuring out where their money is going
This isn't a slight, it's just interesting to see that this connection has never really been made. Money is treated as an emotional thing rather than a mathematical thing.
And this is those who get to the point of seeking help - they're actively asking for help and have never tried just tracking their spending. It's an entirely new concept.
The next big thing is that people talk about unexpected costs coming up and have never stepped back to look at the issue more broadly.
Some find birthdays an "unexpected cost" but they're not actually a surprise if you are able to look ahead more.
More unexpected are repairs and replacements. But stepping back although your tires were a surprise this year and your brakes a surprise last year, the idea that something would need dealing with on your car isn't.
The 3-6 mo savings is really a goal before suggesting moving on to riskier investments rather than "oh just have this". One day of spending is better than none. A week is better, a month better and 3-6 is better still. Beyond that the benefit drops massively, so you can start putting away money for much further in the future.
It's boring but that's imo because there's not much to basic personal finance.
If you spend more than you earn you are screwed.
If you earn more than you spend, you can build up savings.
If you are right on the line, you're either statistically shocking or your spending should move one way or the other.
Also worth noting that in most of the OECD, 3+ and even maybe 3 months depending on the situation is quite high, bordering on the wasteful. Americans have to worry about healthcare and crappy if present unemployment payments if they lose their jobs; in most other developed countries (of course your mileage will vary), you cannot be fired on the spot with no notice without compensation. And if you do, you don't lose your healthcare. Also, you can't be fired for being sick/unavailable to work for medical reasons, and at least some countries have medical provisions for burnout too (you get months of paid sick leave to recuperate, while your job is being kept).
Therefore, in most of the OECD (at the very least the EEA + UK + Australia and NZ), there are very few, if any, situations which can leave you with zero income with no notice. Therefore the safety cushion you need is much lower than an American that might lose their job tomorrow and then need to pay tens of thousands in medical bills.
I know it happens less frequently in tech, where people get compensation, but what % of workers are in tech? The median worker has no such luck.
And if you do, you're still less uncomfortable because your healthcare is not tied to your employer. Unemployment and other related aids/insurances/benefits will vary wildly between countries, but I'd still bet the majority do it easier than in most US states.
And certainly many countries have lower salaries and higher unemployment that the US does in general.
And what's the issue with government programs? If someone without employment or revenues can get healthcare or food, that's good.
> And certainly many countries have lower salaries and higher unemployment that the US does in general
Higher unemployment yes, absolutely. Lower salaries you can't really compare because you need to adjust for a lot of things (quality of life, cost of living, things like the safety cushion one needs, etc.)
You are right in that they have 632 reasons they couldn't possibly do that, but they are clearly wrong since other people are. The correct thing to do is to realise that having a little bit of financial stability is a higher priority than those reasons in the majority of cases.
Or option B, which is figure out a way to earn more and keep lifestyle inflation in check. In theory, everyone should be able to take that path.
> And most people who do save a lot have a much higher income than is average in their area.
Cause or effect? Because if you save consistently you are going to automatically have a higher income than your more average peers. You all have the same average income but savers supplement that with passive income.
Far more than those that actually do.
You can, and should, diversify risk. You should invest outside the industry.
Same, my wife, worked for Apple from 2003-2010. We had Apple stock back in 2004/2005, for just a few $ a share... oh man.
But that went against most most financial advice, and we needed the money as it came.
Maybe. You can also just be trying to catch a falling knife. Sometimes it's sensible to cut your losses but, of course, it's often not clear when (or if) that's the case.
You can reduce your microeconomic risks by making investments in and around your sector of occupation. Especially when betting against yourself.
For example, someone who works in the electric vehicle space could reduce their risk by making personal investments in ICE companies, just in case EV adoption is slower than expected. A person who works in a payment processor could invest in visa/mastercard, to protect from the risk of fee rises. A privacy tech investor could put money into adtech, so they can make money whoever wins.
This works well if the EV industry slows and ICEs are poised to dominate the future. This works very very badly if the vehicle industry as a whole slows and the entire sector tanks.
However, in sectors like vehicles there's a relatively low risk people will stop car purchases altogether but a very very high risk they'll buy from another manufacturer instead of yours.
Or I can just put my money in something like VTI (total US stock market) or VT (total world stock). Effectively does the same thing with almost zero effort. One thing I don't really like about the comments here is how insistent people are in doing something specific as opposed to picking the simplest thing and then sticking to it. Most of the power of investing comes from time.
Admittedly, though, I have been putting new money into a leveraged ETF, RSSB, which is a 2x leveraged 50/50 global stocks and bonds fund (so 100/100). Existing money is still in VT. The only reason why I'm pursuing this is because of Cliff Asness's great article [1], which argues against going 100% stocks (which I used to do) and instead prefers using something like leverage on a 60/40 portfolio.
[1] https://www.aqr.com/Insights/Perspectives/Why-Not-100-Equiti...
True...but especially when it comes to investing - the market can stay irrational longer than you can stay solvent.
I also remember other companies such as Globant that has a lower PE price vs. similar companies after their IPO. It is incredible that some investors try to build very complex models instead of waiting for the right opportunity.
Not against speculation but you should know when you are doing it or fundamental investing.
[1] https://www.nektra.com/main/2020/01/12/reflecting-on-16-year...
We seen good and promising products targetting growing markets fail while competing half crap craps sell wild with the broad public and win, go large.
Nvidia's recent success was in no way pre-ordained to anyone who had two brain cells to rub against each other as various people here seem to think.
Analysts do follow what is happening in an industry and talk to people in an industry. SOme have worked in the industry they follow.
If you want to get ahead of them you need to focus on something ahead of them - something small or specialist at the time.
There is an incentive structure that pushes fund managers to look at their rankings this year: there is no point in aiming at outperforming over a decade if you got fired two years in for underperforming. It has happened to people who have not bought into booms.
I actually think avoiding the "hype de jour" is one place where small investors have a chance to do well. Avoid the overhyped, pick up the neglected and you can outperform.
As a financial analyst I might very well have logically held off for a bit.
Well, the investment landscape is littered with the rotting husks of companies with great products. Wonderful, amazing products. They had incompetent management. Or the market for their amazing product never took off. Or there was a general downturn in the economy and they couldn't get cash when they needed it.
If the company has demonstrated itself a good investment, you can rest assured the wolves of Wall Street have already picked the carcass clean before you as a retail investor even get a whiff. They run analyses on factors you don't even know about to make their picks, and they do it in large number like you're never likely to see.
Even if you make the right picks, it's often the wrong pick. Consider if you had invested in Oxycodone a few years ago. It was a great product, brought simple, accessible, effective pain relief to the masses. Prescriptions were flying off the shelves like no other drug before it that wasn't a statin. I'm sure a handful of retail investors are smugly crying "inb4" but most of them are left holding the bag on that one. Hindsight investing is mostly a bitter strategy.
Or how about 5-10 years, when it was clear that everyone was using Nvidia for crypto-related purposes? Heck, even start-of-pandemic when high-end graphics cards were nigh impossible to buy without a 3x markup? (A cool 1500% ROI to date)
This is the sort of thing that's obvious to everyone in hindsight, but it's not always clear in the moment, nor is it clear when the stock has peaked (how many people sold in Nov 2021 as the GPU shortage was starting to ease?).
If you bought NVDA on Jan 1 2006 and held it for 10 years, then you'd have about +100% ROI, or about 7% per year. Not terrible (S&P 500 was closer to +50% ROI over that timeframe), but not amazing (compare this to GOOGL which had a +250% ROI, or AMZN which grew 10x over the same timeframe). Amazon was also an obvious winner in that timeframe due to AWS, right? What about Google / Alphabet? What was unique about its circumstances that warranted it growing twice as fast as Nvidia in that timeframe? Google Plus? Android (it didn't grow 10x like Apple did)? YouTube?
It wasn't clear then that NVDA would have been the winner that it is today, and it's similarly not clear today if NVDA has another 10x gains ahead of it, or if it's already peaked. Or, for that matter, what the next big tech winner will be. (I bet it already exists. It might even already be publicly traded.)
edit: also, if I had perfect predictive knowledge of the financial markets, I'd have put $1000 on BTC back in 2011 when it was about $2 a pop, and sold at any of the recent peaks for $3+ million. There is literally no technical justification for those returns other than market speculation.
If you invested in Nvidia in 2006 it'd be up 46% a year every year on that investment.
So sure, if you correctly guessed that ChatGPT was going to spur a ton of interest in Nvidia hardware, then you could have made lots of money in not very much time. Meanwhile, to me at the time, this seemed like an incremental release on top of OpenAI's prior GPT models, none of which were earth-shattering paradigm shifts. I certainly did not anticipate the surge of all these AI startups that wanted to build on top of it, or the industry shift to try to use GenAI to solve all of the world's problems.
--
If I got the math wrong anywhere, it was the magnitude of investing that $1k in BTC back in 2011 -- I'd have $30-35 million to my name, minus taxes for long term capital gains. Even then, it wouldn't have been clear to me at what point I should sell -- mid 2017, when that investment would have grown to $1 million? After it peaked in December 2017 at $20k, it lost 80% of its value -- what reason would I have to expect that it'd grow to more than 3x its previous peak, just a couple years later?
In the 00s there was some company that had great tech. Surely useful for the future. He put a shitload of money in there. On each paycheck he put in more and more. But although the company had great tech, it didn't end up being the market winner for whatever reason. As the stock dropped and dropped he bought more and more. After all, it was the best tech.
He lost a fortune.
It is probably easy to look back and say "well, I knew that CUDA was easier to use than OpenMPI ages ago, it was obvious that nvidia would blow up."
Yes, he would have lost less money if he hadn't gone so deep here. But he still would have lost his investment had he put 5% in or whatever. The point is that even deep knowledge about an industry isn't going to ensure winning picks.
Hindsight is 20/20. I highly doubt people in parallel computing, unless they already worked at Nvidia, have done better than anyone else with their portfolios. Other than the standard delta you'd assume since those people are probably savvier investors in general.
It's not if you consider the volatility of the stock. It appreciated x10 in less than 2 years and 20-30 times since the pandemic. Volatile stocks have high returns because they have high risks for losses.
The majority of supposed "experts" are not beating the market. Its probable that the only difference between them and you is the belief/confidence in their skillset.
A few years ago I sold $100k of TSLA and retained the other $100k which is worth more now.
It was just a gamble. I'm not silly enough to think I can pick winners like that all the time.
Mandatory pension funds are a ponzi. And btw the EU is hard at work working on one atm: they re currently thinking hard as to how to capture the wealth of EU citizens and the latest iteration would be a mandatory fund to invest in... State sponsored companies. They ll oc course not be presenting it that way but that s what it is. Then they ll kick the can down the road for years or decades by forcing mandatory contribution from new taxpayers.
Ponzi / pyramidal / state-mandated shenanigans never end well.
FWIW that mandatory fund in the EU shall be used to finance the army, digital transition (supposedly to counter the US but actually to siphon taxpayers money into friends of politicians creating companies that ll never compete with SV) and... Ecology.
I'm not thrilled that in a few months I ll be forced to invest in that.
I've always thought of a stock as a claim on future dividends, but for most of a company's lifecycle they should have a better idea how to invest funds than returning them to shareholders. So ideally only mature large cap companies should pay dividends.
As far as valuations go, international stocks are far more attractive than US stocks right now.
Total US stock fund (VTI): 1.33% dividend yield, 25.1 P/E
Total international stock (VXUS): 2.94% dividend yield, 15.4 P/E
It's been my experience discussing with many US investors that they are loathe to hold any international stocks for a variety of reasons. Personally I think they will have their decade soon. The US market cannot continue eating the world market capitalization without commensurate outsized earnings growth to back it.
https://thenevadaindependent.com/article/lawmakers-approve-d...
Normally non finance people in the organisation get hoodwinked by investment sales people. Then they pressure the finance guys into perusing a complex high fee strategy.
Some benefits salesman came to my blue collar office and tried to hoodwink [great wordchoice] our boss into buying employee insurance policies (health, whole life)... but would not allow employees to read the contractual terms until after bossman signed-up.
It was left to employee vote, and I was grateful when my peers listened to my concerns [slick sales guy was out-voted, left frustrated with me about his lack of commission]. Why not just let us see the terms & conditions.?. are you really offering that shitty of a product?! †
†: insurance company's mascot was some waterfowl with a loud two-syllable mouth...
https://www.nakedcapitalism.com/category/calpers
edit: here's a more specific article that's very related to the OP https://www.nakedcapitalism.com/2023/11/should-calpers-fire-...
Re: picking stocks yourself, the answer is also pretty cut and dry. There’s strong evidence no individual trader can expect to beat the market. Active managers can only beat the market gross of fees because they employ large teams of people to do a lot of work to gain a small edge (stuff like predicting retail sales numbers from satellite images of store parking lots).
This is my attempt at summarizing a whole field of research in a few sentences. There are many more nuisances. I highly recommend listening to the Rational Reminder podcast if you’re curious about this sort of thing. They interview a lot of academics.
some people prefer the chance to win the lottery rather than get a steady income stream.
Also, some fraction of Buffet's success comes from deals that the rest of us don't have access to.
If you always win after lose and lose after win, then it would go like this:
1. $1000
2. $1100
3. $990
4. $1089
And so on... After 100 turns you would have only around 600 - 700.
But it's a zero sum right. Where does the 300 - 400 go? It goes exponentially to select few who by random chance have more wins than losses.
In fact the longer it goes on, the higher odds of there being outlier with a lot - you might expect that everyone would converge around $1000, but that is not the case.
I did an example run with 10 000 investors, each doing 1000 trades, each trade they bet 10% of their portfolio, with 50% odds of winning.
First investor had 562 wins and 438 losses, with $1,666,061.
Median investor had only $7 left with 500 wins and 500 losses.
Top 10th percentile investor had $364 with 520 wins and 480 losses.
So interestingly even an investor that had 40 wins more than losses, lost 2/3 of portfolio.
Buffett buys “cheap, safe, high-quality stocks” with leveraged “financed partly using insurance float with a low financing rate” [1]. TL; DR He’s doing private equity with discipline.
[1] https://www.aqr.com/Insights/Research/Journal-Article/Buffet...
1. Buffett has been underperforming the S&P 500 for about twenty years now:
* https://www.linkedin.com/pulse/warren-buffett-has-underperfo...
* https://news.ycombinator.com/item?id=37827101
For most people who are saving for retirement between the ages of (say) 30 to 65, that's most of their investing lifetime, and such underperform could radically effect the life they can live once they start working. Do you want risk your proverbial Golden Years simply because you chose not to take the market average returns?
2. While Buffett is a better-than-average investor (and certainly better than me), the main reason why we know him is because he's so rich, but as Morgan Housel notes, the vast majority of that wealth has come from compounding:
> As I write this Warren Buffett’s net worth is $84.5 billion. Of that, $84.2 billion was accumulated after his 50th birthday. $81.5 billion came after he qualified for Social Security, in his mid-60s. Warren Buffett is a phenomenal investor. But you miss a key point if you attach all of his success to investing acumen. The real key to his success is that he’s been a phenomenal investor for three quarters of a century. Had he started investing in his 30s and retired in his 60s, few people would have ever heard of him. Consider a little thought experiment. Buffett began serious investing when he was 10 years old. By the time he was 30 he had a net worth of $1 million, or $9.3 million adjusted for inflation.[16] What if he was a more normal person, spending his teens and 20s exploring the world and finding his passion, and by age 30 his net worth was, say, $25,000? And let’s say he still went on to earn the extraordinary annual investment returns he’s been able to generate (22% annually), but quit investing and retired at age 60 to play golf and spend time with his grandkids. What would a rough estimate of his net worth be today? Not $84.5 billion. $11.9 million. 99.9% less than his actual net worth. Effectively all of Warren Buffett’s financial success can be tied to the financial base he built in his pubescent years and the longevity he maintained in his geriatric years. His skill is investing, but his secret is time. That’s how compounding works. Think of this another way. Buffett is the richest investor of all time. But he’s not actually the greatest—at least not when measured by average annual returns.
* https://www.goodreads.com/quotes/10551666-more-than-2-000-bo...
Volatility adjusted returns (or Sharpe ratio) for instance, will tell you how much returns you have per unit of risk you take. This is important because getting 10% average annual returns with 10% annual volatility is worst than getting 5% returns with 1% annual volatility. You can only compare investments at equal amount of risk.
An other factor to take into account is diversification. If you have an alternative investment to compare to your base, and it's average returns is lower than your base, but it is un correlated, then you actually get an increased volatility adjusted average returns by investing in both.
That's just two dimensions to take into account, there are many others, but overall:
- Don't compare investments based on annualized returns alone, it really doesn't make any sense.
- Don't compare investments one against an other, instead look at the addivity of one on top of another.
Doesn't this depend on how long you're planning on investing for, and what your criteria for selling your investments are?
If you're planning on investing for at least 10 years, and you're willing to give yourself a 2-3 year window for selling your investments once they reach a threshhold you decide on ahead of time, isn't the 10%/10% investment better?
(e.g. if retirement is 20 years away, you might consider putting your funds in that sort of investment for 10 years, with a view to moving them to something less volatile in the 5 years after that, as soon as they cross a 10% annualised return threshhold during that window.)
If you consider that "you don't know any better" and returns are normally distributed (i.e. you don't have some secret sauce nobody else knows about), then there is no dimension in which the 10/10 is better.
You can convince yourself intuitively by imagining how you would maximize each strategy. The amount of money you have is a factor of the risk you take, because if you want to do something risky you will not be able to borrow much, whereas if you want to do something safe you can easily borrow.
That is, you objective is to maximize your expected return, under the constraint of not breaking your risk limit.
Suppose you have a 10% annualized volatility risk tolerance. That's your budget.
If you invest it all in a 10% average return / 10% annual vol strategy, that's it.
Now if I propose you a 5% average return / 1% volatility strategy, you just have to go to the bank and borrow 10x your capital. You will have the same risk exposure (in dollar), but 5x the expected returns.
I don't know much about finance. I guess that at that point (you borrowed 10 times your net worth). This is no longer your investment, it's your lender's investment. They will adjust interest rate to match the riskiness of whatever you are doing, leaving you with net zero.
Borrowing money is not free.
Of course it is, though not exactly by "borrowing money" in a "mortgage" sense. Margin trading is a way to take leverage, derivatives is another. The former is simpler but costly, the latter is cheaper and allows you much more than 10x leverage, though it requires some high school mathematical thinking.
"just" is doing a lot of heavy lifting in that sentence.
It's clearly better in the expected return dimension. This strategy has 10% expected return, while the other strategy has 5%.
>- Don't compare investments one against an other, instead look at the addivity of one on top of another.
I don’t think either of these matter to 90% of investors whose goal is to build up a nest egg for retirement which means not spending for decades in the future.
Sharpe ratios and all those “risk” adjusted calculations all involve assumptions that may or may not be true.
Comparisons of just annualized returns over long periods of time seems fine for broad market index funds, especially if you are assuming the federal US government will provide a backstop.
On the contrary, these risk adjusted measures assume nothing more than a normally distributed random variable.
If you just look at annualized returns, then go ahead and invest in CDOs ETFs.
More seriously, the S&P for instance has around 20% annualized vol, which IMHO is way above what you would want for a retirement fund. I would target something closer to 10%.
> Comparisons of just annualized returns over long periods of time seems fine for broad market index funds
Do you have any sort of reasoning or is it just a gut feeling?
The financial sector isn't yet so unrelated to reality that the price of securities is random.
At best, using a normal distribution is something that undergrads use as a tool to learn about the stock market and make some simplifying assumptions for pedagogical purposes, but it most certainly is not something that actual professionals or researchers in the field genuinely believe.
My point is that, for all intent and purposes, you should assume normal distribution of returns.
If you don't, you're obviously on either end of the spectrum: not knowing the subject at all, or nitpicking expertise on the internet.
The subject of the matter here is convincing someone that risk adjusted measures should be considered when comparing portfolios. This is the basic underlying modelisation that 99.99% of the finance world makes, "compare sharpes", "compare volatility adjusted returns".
I'm stating 1+1=2 and you're arguing it doesn't hold in Z/2.
> At best, using a normal distribution is something that undergrads use as a tool to learn about the stock market and make some simplifying assumptions for pedagogical purposes
Implicit normality assumptions are everywhere. I encourage you to think hardly about your model and question whether anything you do would work on non normal distributions, you will most likely find that you have millions of these assumptions in your linear combinations, sample renormalization, regressions, sharpe weighters and optimizations.
Now of course you could refine that with students, lognormals, and whatever, but this is more _refinement_ than anything.
To be pedantic, stock returns, not prices.
As for the quotes, I encourage you to strongly think about the meaning of the work of Sharpe, Black & Scholes and Markowitz applied to non normal distributions (both Nobel prizes, we understand each other).
In particular, try to articulate the relevancy of sharpe ratios between two non normally distributed portfolios.
If one is a random variable, so is the other. It's a simple change of variables. What's your point?
> As for the quotes, I encourage you to strongly think about the meaning of the work of Sharpe, Black & Scholes and Markowitz applied to non normal distributions (both Nobel prizes, we understand each other).
Could you quote the part where they say that actual, real-world stock prices (or returns, whatever) are random?
Not sure I follow your reasoning. Prices are positive only, and non stationary. That is very much not the same for returns. Usually prices are log normal, leading to normal (log) returns.
> Could you quote the part where they say that actual, real-world stock prices (or returns, whatever) are random?
It is not said, but rather implied. Take the Sharpe ratio for instance, it is a measure that:
1) is used to compare different assets / portfolio returns
2) rely on the 2nd moment of the returns.
The standard deviation is less relevant the further away from the normal distribution you go, so since this is a comparison metric, it can only be reasonably applied to compare normally distributed returns.
If you believe the returns are not generally normal, then you reject the use of the Sharpe ratio as a relevant measure of comparison.
I don't have a B&S reference at hand, and I did not read it since 15 years, but I'm pretty sure it assumes lognormals prices as well.
Perhaps we should take it back to the beginning. What do you believe "random variable" means...?
> It is not said, but rather implied.
I see.
The market is incredibly efficient at pricing many things incorrectly and Markowtiz then BSM was no exception.
That is exactly what I am referring to. For example, from Wikipedia:
https://en.wikipedia.org/wiki/Sharpe_ratio
>However, financial assets are often not normally distributed, so that standard deviation does not capture all aspects of risk. Ponzi schemes, for example, will have a high empirical Sharpe ratio until they fail. Similarly, a fund that sells low-strike put options will have a high empirical Sharpe ratio until one of those puts is exercised, creating a large loss. In both cases, the empirical standard deviation before failure gives no real indication of the size of the risk being run.
>Do you have any sort of reasoning or is it just a gut feeling?
The reasoning is that their volatility is negligible over the long term due to political forces. Of course, it is also an assumption that could be wrong, but the mechanisms for government policy (democracy, aging demographics, and voter participation trends) seem to favor reducing purchasing power of currency rather than letting broad market equity prices stall or slide down.
Volatility not being a full measure of risk obviously does not imply that volatility should be ignored.
The former statement about returns not being normally distributed is a, trivially verifiable, factual mistake. Daily stock returns are normally distributed with a slight positive kurtosis. This remains true on any period over the last 30 years.
I am bot arguing either that the Sharpe is an all encompassing measure, some strategies have a returns distribution that is not well explained by Sharpe. I don't think it matters in this argument though.
But look at something like systemic risk: it’s not necessarily normally distributed. The S&P returns skew left. I’m sure there are other risk metrics that break this assumption as well.
I don’t know that I agree. If the market as a whole doesn’t have normally distributed risk, it implies even the simplest strategy of buying SPY and holding will also not have normally distributed risk.
Imagine really thinking that the nature of a discussion forum can somehow influence the distribution of stock prices, as if stock prices examine comments on the Internet to determine their behavior.
Attacking the comment with sarcasm isn't in the spirit of HN even if you think that is a dumb idea.
Well I do and as someone who has seen his other posts on this subject as well, he has a tendency to try to dismiss differing points of views on the basis that he has 20 years of experience and knows better than everyone else but can't be bothered to explain it.
Someone who has experience and wants to flaunt that experience should do so by coming up with good arguments, pointing people to good resources, and making a good effort to inform rather than pulling rank as a way to dismiss the conversation under the guise of sophistication and pretention.
I too have decades of experience working at a quant firm, and guess what... many people who post on HN have subject matter expertise and frankly I don't think many of us would agree with the idea that the stock market is normally distributed, or that you need a great deal of mathematical machinery and sophistication in order to demonstrate that fact.
Math models reality, reality does not model math. Whether or not stock prices or portfolios, even the portfolios of those on Hacker News, follow a normal distribution has nothing to do with the nature of the discussion of those portfolios.
Also, policing people's tone is also against the spirit of HN as well, but here we are. If you want to police how I speak, flag my comment and/or downvote it.
> decades of experience working at a quant firm
I would say the more "bayesian / sell side / derivative pricing" kind of meaning exists since the late 70s, the more "frequentist / buy side / let's hire 100 physics PhDs" meaning came prominent in the early 2000s. (as a general feeling).
> Well I do
Well then what's your stake here?
> he has a tendency to try to dismiss differing points of views on the basis that he has 20 years of experience
I surely will concede I have this tendency, now you have to keep the context in mind. You are on an internet forum focused on CS, and emerges a comment thread on personal investments. The very subject of this thread is whether it makes sense to consider risk adjusted returns or just any kind of returns for your investments.
My argument is based on the fact that risk adjusted returns should be used, and you should assume normal distribution. I am not saying this is a law of nature, but rather that this is a fine and widely used assumption for both practitioners and academics, which allows the argument and explanation to go further without entering an experts debate (like you are trying to start).
So I stand by what I said: for all intents of this discussion, assuming normal distribution should be a given. If you want to dance around it and demonstrate that a students distribution or whatnot is a better fit, go ahead. I think this is more armful than helpful here.
> try to dismiss differing points of views on the basis that he has 20 years of experience
I think this is important on the contrary. What is lost on a forum like HN is the context of people answering comments. When someone comments "I don't think risk adjusted returns are important", it makes a hell lot of a difference if it's just the opinion of a random guy, or someone with actual experience.
Now while it takes 1 sentence to wrongfully dismiss a scientific fact, it can take 100 pages of an expert to prove that it's true. Look at a proof that 1+1=2.
That is where credentials are important IMHO. Some debate tengents are not interesting in a discussion, and will only lead to an expert explanation serving no purpose other than confusing a reader, and making the expert proud of himself. In these situations, just stopping the tengent is the best reaction IMHO.
So I apologize if you take my comments as dismissing, but try to assume good intent. When someone asks why you should use risk adjusted returns to compare investments, I think the saner thing to do is to tell him to assume normal distribution, because that's the far more likely scenario, most of the research do take this overall assumption, and you can proceed to the demonstration that makes sense, which I showcased in my previous comment about 10% returns on 10% annual vol versus 5% returns on 1% annual vol.
To re take the example I posted above, when the discussion is about 1+1=2, I don't think you're doing any good contradicting that it doesn't hold on Z/2.
Assuming normal distribution of returns is a pretty standard base for comparing investments. It is a base shared by many models and metrics. Sharpes don't make a lot of sense on non normal distributions, mean variance optimization either.
Modeling (and possibly economics, especially) is rife with simplifying assumptions that break down in practice. You can find many economists who think modeling individuals as rational agents is a "fine and widely used assumption" while also finding many economists and psychologists showing where this assumption can get you into trouble. There is a big difference between "this assumption is made because it reflects reality" and "this assumption is made because it makes my life as an economic modeler not suck." The latter is still fine, but only if you're upfront about its limitations.
I don't understand that. If you just bought Apple instead of SPY 20 years ago wouldn't you be doing great?
Put another way - if you can reliably pick the next Apple before anyone else, you should go work in finance and make tons of money.
Problem is that it might take years to verify that.
> The key is that
That doesn't change the fact that there are plenty (in absolute numbers) of individual investors who consistently beat the market. Whether that's because of luck or something else is rather hard to tell.
It's actually not very hard to tell; if it was because of something other than luck, you'd expect that beating the market in the past would have some predictive value of their ability to beat the market in the future.
> average
So what? It's like saying that since an average person can't run a marathon it wouldn't make sense for any individual to even try it. How does that make sense?
> cherry picked
If we agree that 50% of all investors can't beat the market, what proportion can? 1%, 10%, 30%? Because there is a massive difference.
How do we even define that group? Is it any random person buying random stocks with pocket change? Is it above a certain portfolio size? etc.
You can beat the house at blackjack, but you can’t reliably expect to do it.
> you can’t reliably expect to do it.
Sure, I can't. But assuming that it's not entirely random chance some proportion of people certainly can.
I think you’re reading too much into the analogy, which is maybe my fault for using an analogy. The point was just that it’s not that you can’t win, just that you very likely don’t have an edge - not because it’s mathematically impossible like in blackjack with a shoe that’s continuously shuffled, but because it’s so difficult.
> Sure, I can't. But assuming that it's not entirely random chance some proportion of people certainly can.
Yes, but the bar is very high.
If you're a top investing expert, you do things carefully in the right way, and you don't make mistakes, you can expect average performance. Because the market primarily consists of experts like you.
Of course, investing is a random process, and you often beat the market by being lucky. But luck doesn't last indefinitely.
There are basically two ways to beat the market consistently. One is trading based on information not available to the rest of the market. This is sometimes banned, because it makes the market less fair and less efficient. It can also be a crime. The other is finding a market that's small enough or obscure enough that it's not interesting to the professionals.
But there is no investing stat that allows you to beat the market. Life is not an RPG.
So for all intents and purposes, the takeaway for regular investors should be that they cannot expect to beat the market (but they can gamble on it if they like).
Warren Buffet buys the newspaper and has significant control of the editor. That's not the same game at all.
There's a lot of talk here about active fund management. Active ownership is playing on a completely different level.
Take 100 people randomly throwing darts at the companies on the SPY, and a fair few will do better than the SPY overall. Doesn't mean they can expect to beat the market
Is there? It would make sense if an average individual trader can't expect to beat the market. Claiming that there are no individual investors who did/can do that over a reasonably long period is both objectively false and rather absurd.
Do you believe that investment is entirely random and there is absolutely no skill involved?
Because if not, that's a nonsensical analogy. You should use a a both both luck and skill based game like poker (probably not the casino variety, though) etc.
Otherwise if you can reasonably expect to beat 50% of all "players" (of course it takes much more time to verify that in the market) then you can expect to make more than the average.
The skill involved is more just "best practices" that let you match the market: Buy-and-hold, diversify, basically, do what the index funds do and you will be roughly +0 to the market. Beyond that, it's a totally random distribution that adds between -X and +X which allows some participants to beat the market and causes some to underperform. You can't tell beforehand which participants will beat the market, even having full knowledge of their strategies and skill. If you think you can, please tell me which active funds will beat the market in the next 10 years based on their skills. I'll invest in them.
I never implied that I can. That fact doesn't prove that it's somehow fundamentally impossible to do that. The problem is that it's impossible to tell if you "strategy" is working until a significant amount of time passes and by that point the markets conditions might have changed to such an extent that you don't longer have an edge (add to that the fact that it's hardly possible to determine what part of your success was luck/skill). So there is always a huge amount of uncertainty.
Albeit if we look back by ~10-15 years it's rather obvious that it was possible to beat the market by a very significant e.g. there were clear rational reasons to believe that Nvidia would do better than its competitors like AMD or Intel and that there would be significant growth in GPU compute/ML/AI (of course accurately estimating the extent and exact timing but that wasn't necessary at all to get above market return) same applies to many companies in adjacent and unrelated sectors. Was I or the overwhelming majority of investors capable of realizing that and more importantly acting on it? Certainly not. But looking back it obviously wasn't random.
The efficient-market hypothesis is clearly false, at least in the short to medium term. That in no way means that most investors are even remotely capable of utilizing this fact.
These add up significantly. Instead of having to beat the market at all, you have to beat it by an extra half of a percent or more every year. And you have to do it year after year after year.
All the evidence shows that actively-managed funds are a weighted (against you) coin flip. Less than half will beat the market in a given year. And the results from any given year are independent of the next.
Then I suspect that even with all the supervision in place, quite some manage to also do Hollywood accounting.
Not to mention the friend of the cousin of the fund manager's niece who happened to buy x shares of y or options before, shocker, the fund invested in y.
We know these people cheat. If they were so good they wouldn't need to leech on fees.
I live in a tiny country where lots of fund are managed (only second to the US). I know the drill. Most of them by very far are about suckering people's money in, no matter what the fund is about.
Creat 16 funds, after four years show the prospectus of the one fund that performed best. Rinse and repeat.
Actively managed funds are a scam.
Also depending on where you buy it, anywhere from zero (good) to 1% entrance and exit fees.
"Scam" is not a strong enough word.
In aggregate sure. But unless we believe that it's entirely random some individual investors can still certainly expect to beat the market, they just can't verify that in advance.
I offer you a bet. We flip a perfectly fair coin. On every heads you gain 10% on top of your bet. On every tails you lose 10%.
It is fair to say that after 100 flips you may profit. If one million people play this game, someone almost certainly will. But you can expect to lose money on this game. By the end, the average person will have about 60% of their original holdings (0.9^50 * 1.1^50).
In this game it’s possible for winners to exist. It’s not even uncommon! You only have to get at least 53 out of 100 flips as heads. Unfortunately there’s also no function that lets you determine a winner in advance, and the longer you play this game the greater the expected loss.
All of the available evidence shows that publicly-available actively-managed funds are essentially playing this game. As expected, many have incredible winning streaks… right until they don’t.
Yes, Ren Tech’s Medallion Fund exists. But you can’t contribute to it; they don’t want your money. Because that requires scaling market inefficiencies and that in and of itself is an intractable problem. Novel strategies ripe for profit don’t have unlimited capacity. They rapidly exhaust alpha.
No, I simply disagree with the whole premise, at least to a limited extent.
> All of the available evidence shows that publicly-available actively-managed funds are essentially playing this game
Yeah that's true, I was mostly talking about individual investors and/or non public funds.
My only point is only that not every investor is rolling the same dice. It's just that it is effectively impossible to every verify whether you were rolling a 90-sided dice or a 100-sided one. It's rather clear that at least in the short to medium term (e.g 2-3 years) the stock is not even remotely perfectly efficient (that doesn't mean that the overwhelming majority of investors are somehow capable of utilizing that fact or that a significant proportion of those that did seemingly manage to do that weren't just lucky)
And doing that gives you the same expectations as everyone using the same dice.
Really, you could say it about absolutely any job, it's just a bit more direct with managing money. 'If you were any good at writing software you would just sell your own SaaS', etc.
Look at total returns over the last 40 years on the most popular indices in the world. S&P 500 crushes them all. I see a lot of "Internet advice" recommending various MSCI world indices. They are all much worse than the S&P 500.
Personally I try to avoid investing in the US for political reasons, besides the wishful expectation that the empire could fall within my lifetime and hence be a not so good investment.
There is a lot of demand for S&P 500 index , but that demand isn’t exactly tied to the fundamentals of the index, and the price isn’t tied to value of the underlying companies, it’s tied to demand of people looking to save money for retirement or a place to store a nest egg. This is an opportunity for price discovery to get things wrong and eventually the market should correct that.
https://www.investopedia.com/ask/answers/08/george-soros-ban...
I live in the UK: if I buy the S&P500 over the FTSE100 (or even more so the 250, the next 250 largest companies which are typically more UK-market-oriented) I'm making a US-weighted bet. But maybe I think I'll move there, and should have that exposure. Or maybe I spend a lot of money all over the world and want a more global exposure overall.
I think at least vast majority index is right for basically everybody, but you do still need to think about which index/indices are most applicable to your situation/intentions.
(Conversely, there are smaller indexes which tend to beat the S&P500, like the NASDAQ100, but there’s a volatility cost.)
The implicit assumption in that refrain is that, despite periodic dips, the U.S. stock market always goes up over time. This has been true since the Great Depression (see graph of S&P 500 since 1929)
https://www.officialdata.org/us/stocks/s-p-500/1929
The implicit assumption behind that is that the American economy always invents a way to grow. Buffet famously said, "never bet against America".
For as long as these assumptions match reality, it's likely that passive management will continue to succeed.
Even when the economy is flat, passive management works. As long as companies are economically productive, capitalism will hand over a chunk of the profits to the owners of the capital.
Of course, growth increases the size of that chunk year over year, but capitalism doesn't stop when growth stops.
Active investing is when you are looking to exceed this passive margin by timing your trades well. Active investing requires changes in productivity (such as growth).
Stock prices increase when earnings of the company grow.
In other words: when the economy grows.
You can argue that Amazon and Apple and Google and Facebook etc. will grow earnings even if the overall economy is flat or shrinks but I don't see how that would apply to passive investing i.e. investing in S&P 500 i.e. investing in 500 largest US companies.
S&P 500 is U.S. economy and they all are sensitive to overall economic situation. If people have less money, they buy less stuff. Amazon makes less money, their stock goes down. Apple sells less iPhones, their stock goes down. All other companies make less money, they spend less on advertising, Google and Facebook make less money.
I don't see a scenario where overall U.S. (or world) economy declines and S&P 500 doesn't decline.
In fact, declining economy is an argument for active investing. Even when overall economy declines, among 6000 companies listed on stock market there will be some that will be growing and if you invest in them, you'll make money.
There are other ways to make returns. Return from stock comes mainly from increasing stock prices and from dividends. But fundamentally, it comes from profits.
> Stock prices increase when earnings of the company grow.
There are many reasons stock prices increase. But whether it does or doesn't isn't really relevant.
When a company makes a profit, either:
* the profit is reinvested, the value of the company grows and the stock price grows, making a return for the passive investor
* the profit is returned as dividends, making the passive investor a return as well.
No growth needed for the individual companies either. As long as they are profitable, they make a steady return for the passive investor.
Thought experiment: imagine a company which is going to make 1 dollar of profit per year for all eternity, which it returns as dividends. For an investor with a discount rate of 95%, that company is worth 20 dollars. Say he buys the company for 20 dollars. After 10 years, that company is still worth 20 dollars, as eternity is still eternity, but the passive investor owning the company has made 10 dollars from the company.
As you can see, the passive investor made a return, despite the company only being profitable, but not growing nor shrinking.
You will make a return on your investment when your investment makes a profit, that is capitalism. Whether the profit is increasing, decreasing, flat or going in circles does not really matter, as long as it is a profit and not a loss.
Only if you were fine with waiting 50-100 years. The market in 1950 was more or less at the same level in real terms as in 1906, of course dividends were way higher back in those days. If we take that into:
e.g. if you invested 200$ in S&P 500 in 1906 adjusted by inflation in 1950 you would have had ~$1570 in 1950. Which is an average annual return of ~4.7% which is not terrible but you would have made approximately the same by buying high grade corporate bonds just with way less volatility.
There are various macroeconomic models which attempt to explain the factors of growth, for example the Solow growth model. In this model technological advancement is only one of three factors. The others are the savings rate and the population growth rate.
According to this model, you may not be able to innovate your way to growth if one or both of the other factors are contrary to growth. This may sound academic but there are concrete examples in the last twenty years of countries that have not grown because of a stagnant or shrinking working age population, e.g. Japan and Italy.
This has no bearing on the passive vs active debate, as I'm fairly confident that passive investing will always be the better strategy for a retail investor regardless of the growth potential of an economy.
It's just in a country with unfavorable macroeconomic conditions, passive investing may be the way to minimize losses rather than maximize gains.
The assumption of continued growth will probably hold true for the American economy through the end of the century at least, so for everyone here investing in US equities it is academic. But we can try to decompose an economy into factors and use those to check whether we expect growth to occur at all.
Or you invest in a total world market fund for better diversification.
Diversification would have helped anyone in Japan(-only) in 1990, and anyone in the US(-only) in the 2000s. It's a very easy strategy nowadays:
* https://investor.vanguard.com/investment-products/etfs/profi...
* https://www.vanguardinvestor.co.uk/investments/vanguard-ftse...
* https://www.vanguard.ca/en/advisor/products/products-group/e...
I suspect American economy grows slower than stock market. Last 25 years its about printing debt and money supply.
Except Warren buffet. A lot of people went with Berkshire Hathaway and did very well.
Buffett has been underperforming the S&P 500 for about twenty years now:
* https://www.linkedin.com/pulse/warren-buffett-has-underperfo...
It's sort of like "does playing pro golf make sense?".
for private investors buy-and-hold of highly distributed ETFs is the best way to do it. The easiest way to get started is a one ETF portfolio like e. g. Vanguard FTSE All World or SPDR MSCI ACWI IMI. They perform internal rebalancing automatically and you virtually have nothing to do. buy them and don't look at them for the next 20 years.
‘David: The way that some folks we talked to described the difference between the institutional funds and Medallion to us is that Medallion’s average hold time for their trades and positions is (call it) a day, maybe a day-and-a-half. Whereas the average hold time for the institutional funds positions is a couple of months.’
https://www.moomoo.com/news/post/5891516/the-biggest-tax-eva...
However, the active find will charge higher fees.
There are only a couple that has a large history of trades, fairly even equity curves, older than two years, and small(ish) drawdowns (< 30%).
In other words, it's difficult but possible.
And during bear markets I’ve seen some managers create the most onerous terms far beyond what I could think of, and that's paid excessive dividends for me
I think that’s the real hedge that’s overlooked here
The performance of private funds is also not a complete picture, individual limited partners have different profit and loss than whatever metric the whole fund is subject to, someone that joined as an LP after any trade doesn’t have their capital allocated to that prior or existing positions, only the subsequent ones. so its not really possible to judge performance of fund managers in comparison to indices the way that it is popularly compared. Unless LPs are showing their own performance in a scatterplot, nobody knows anything. and LPs are typically subject to NDAs.
I just think it’s too reductive to say nobody can beat the index, then move the goal post to longer and longer time frames. You only need to be successful once, in any time frame but specifically shorter ones
He means that when people are screaming at you to do something because the market's tanking, you earn your salary by yawning and saying, "No, I think we're good."
- A casino's winning business model (at least behind the facade of marketing glitz and amenities) is to set odds that favor the house, make sure its rules are followed, then essentially do nothing as it gets rich on the long-term consequences of those odds.
- It's the inevitible-net-loosers...er, customers, who are the think-they're-smarter and think-they're-luckier busybodies. And always trying new strategies, to build some sort of success out of their occasional sort-term wins.
I suspect that local awareness of this dynamic is why Nevada's business leaders and government tolerate such a boring, passive pension investment strategy.
To give you some ideas:
https://www.forbes.com/sites/chriscarosa/2024/04/02/index-fu...
IMHO we need to rethink or tweak the financial system sooner rather than later.
Plus, index funds follow a kind of Pareto principle where the top stocks contribute disproportionately to the total return anyway.
As I’ve gotten older though, one of my realizations is that the tax-free rebalancing of index ETFs is their most valuable property, rather than their actual choice of equities.
I didn't look at the fees or rebalancing schedule super closely, because I didn't want to invest with the guy, but IMO his market-beating claims were due to increased concentration during a bull market (risk) which could go sideways fast if he didn't rebalance at opportune times.
1. https://www.spglobal.com/spdji/en/indices/equity/sp-500-top-...
I’d be cautious that you are about to get a wicked mean reversion.
What might help understand this concept intuitively is if you take it to the extreme: what if you always held only the very first company of the SP500. Sure, you would have a lot of the upside, but you would also be completely naked to the downturns. Similarly, you would lose a lot of money on commissions whenever the leader changes. Taking any other smaller subsection has the same problems, it's simply a matter of what tradeoff works best for you.
These are the 10 year returns I’m seeing according to S&P:
S&P 500: 11.1%
S&P 500 Top 50: 13.2%
S&P 500 Top 10: 18.1%
The trend is pretty clear, at least in the last decade. My other point was that the historical data may not be as relevant because the index is much more top-heavy today, perhaps in part due to the popularity of index funds and part because the top companies are actually outperforming.
Here’s an article to that effect - the top 20 stocks in the S&P accounted for ~90% of the index’s gains last year: https://www.visualcapitalist.com/cp/top-20-stocks-sp-500-ret...
To your question about picking the extreme Top 1 stock - again I’m having trouble finding good data on that, but I’d be curious what the hypothetical outcome would have been over the last 20 years.
Firstly, for a considerable majority of history, often for years at a time, holding the top one company, I'll just call it SP1, underperforms the index. The maximum downturn for the SP1 was 79% and I think very few people could stomach holding that for years at a time, hoping things will improve.
Secondly, pretty much the only reason the SP1 strategy comes out on top is the fact that AAPL has gone up about ten times (!!) in the last decade or so. Whether that's the new norm in the markets or an absolute anomaly I'll leave up to you. In short, the only real reason the SP1 strategy has looked favorable, and I suspect the same holds for the SP10 and SP50 if you backtested them, is that Apple has seen its value skyrocket.
Needless to say that none of this is investment advice etc.
[0] https://www.portfoliovisualizer.com/backtest-dynamic-allocat...
Index funds will never bring down the market as long as individuals and companies are allowed to trade individual stocks at prices of their choosing. There will _always_ be someone who thinks a particular stock is overvalued or undervalued. Those people set the prices.
Like, let's say there's a company (TryerCo) that is the 501st biggest in the US. Big, but still one step away from being in the S&P 500.
Then, one of the S&P 500s collapse. They exit the index, and TryerCo enters the index at position 500, despite no material change since the day before.
Doesn't this mean a whole _heap_ of index funds will suddenly start buying TryerCo stock, sending it up thanks to the arbitrary number 500?
I swear I've seen actively managed funds that explicitly trade based on stocks' potential to enter/leave indexes, but it's a terrible batch of terms to try to google.
https://www.pionline.com/pension-funds/nevada-public-employe...
We agree on an index and a time frame. You guarantee me the same return as the index within that time frame. If you beat the index, you keep 90% of returns ABOVE the index (and I get 10%). We both win, and you win big.
If you don't beat the index (within the time frame), you make up the difference (so I get the return to the index).
https://markets.ft.com/data/funds/tearsheet/charts?s=GB00B4Q... https://www.finect.com/fondos-inversion/ES0174115057-Cinvest...
It's very easy to create a narrative around random movements. I expect that anyone who is ahead of the market creates such a narrative, and declare themselves a genius. And then half of the geniuses underperform each year, same as every year...
Warren Buffett's very similar bet was done this way.
PS. Furthermore, an accurate comparison is not beating the index, it's beating it enough to cover the salary/compensation of the fund manager + some (with less risk! Risk = cost!)
If you truly can consistently beat the market, you are already making a killing with your _own_ money.
If you want to use _my_ money to place your bets (presumably b/c you want to leverage your market beating ability), I want a guarantee (because I'm more than happy to take the return of the index).
Unfortunately no one will agree to this as long as everyone else is willing to invest _and_ shoulder the risk
If you can't beat the market with your own money, you shouldn't be trying to do it with someone else's.
If you can beat the market with your own money, why are you so worried about the downside? There should be little risk for someone who claims to be able to beat the market.
If they say that's too much risk, they likely don't think they can consistently beat the market.
On the flip side-- a passive fund manager would take 100% downside risk of the fund failing to properly track the index, and only in return for a modest fee. Stated differently-- passive funds can and do consistently track the market.
Where I disagree with you is that fund managers regularly take risk. They never take risk themselves, rather they supply all of the risk to their clients.
Plus, they are being compensated. I'm offering 90% of the returns above the index :-)
Active funds ask investors to accept 100% of the downside and get taxed on the upside. Actually it’s worse: they’re taxed on both the up and down sides.
If this is a terrible deal for fund managers then virtually by definition actively-managed funds are a terrible deal for investors.
Of course, if you offered your bet to all comers and gave significant publicity, unknown "funds managers" would be happy to take you up, though they might well default if they lost.
People accept this bet every single day… when they buy actively-managed funds.
Actually they accept a worse bet. Instead of taking 100% downside risk and being taxed on anything above the index, they’re taxed on both gains and losses.
You’re right that it’s an incredible financial instrument. Actively-managed funds are extremely profitable… for fund managers, who get paid out of investors’ assets in bad years and also get to skim off the gains in good years.
[1] https://www.bloomberg.com/news/articles/2024-07-01/blackrock...
It's relatively easy to achieve a return profile like these promise with some combination of Treasuries and index options (at least while Treasuries pay 5%!), and the ETFs are doing this kind of financial engineering rather than promising to beat the market through stock-picking skill.
On average, the S&P500 has returned about 7% annually. If I had a strategy that returned 5% on average but was totally uncorrelated with the S&P, then you'd get the best overall long-term returns (maximize the geometric average of annual returns) by investing in a combination of my strategy and the S&P.
The average return of the S&P 500 is around 10%, although you will see people use 7% as a shortcut to account for inflation when estimating the future value of their portfolios.
For the 50 year period from January 1974 to January 2024, the annualized inflation adjusted real return of the S&P 500 has been 7.04%, which is not a shortcut, but simply correct. The nominal annualized total return has been 11.14%, but it is an illusory return of value without being inflation adjusted.
And the S&P 500 returns more like 10% per year. A bit higher if you cherry-pick your start and stop dates. I've only seen people use 7% for portfolio value estimation purposes, after adjusting for an assumed 3% inflation.
And the SP500 has had unusually good performance relative to other equity indexes. Would not count on that forever.
When economists say things like, "the market returns X on average," they always mean over much longer periods of time than your example.
The original goal and selling point of hedge funds was to produce consistent results regardless of the market's performance by using long and short positions to provide absolute returns in any market environment.
With that said, even if you accept the revisionism, it's untrue that actively managed funds are uncorrelated with the market. What is true is that selection bias makes it seem like they are since when interest rates rise and markets go through a down swing, the majority (and yes I mean more than 50%) of hedge funds go out of business. As such the only hedge funds that remain are the ones that happened to weather the storm so to speak.
"Beating an index" is really easy. Up to $10MM you can choose most any financial instrument class in the U.S markets and have a good probability of finding alpha for a long time (that would beat the S&P500 18.40% YTD). Many proprietary trading firms, or market makers, or quantitative trading shops do this regularly. Discretionary and systematic funds? Usually not. If their processes worked consistently, they would have no need to take outside capital and deal with relationship management. They could simply use more leverage (not exactly, but simplified for the general reader).
This is also ignoring the fact there are no details in TFA about actual portfolio compositions or returns -- i.e. this is a PR piece.
If your NW is under <$100MM, you should be focusing on hyper-growth strategies -- and not mentally limiting yourself on what is basically financial propaganda.
I.e. not working a career unless it's necessary to build contacts or learn the "secret sauce" that you can leverage for the aforementioned
> “Over a ten-year period commencing on January 1, 2008, and ending on December 31, 2017, the S&P 500 will outperform a portfolio of funds of hedge funds, when performance is measured on a basis net of fees, costs and expenses.”
Predictor: Warren Buffett | Challenger: Protege Partners, LLC
https://longnow.org/ideas/warren-buffett-wins-million-dollar... (“Warren Buffett Wins Multi-Million Dollar Long Bet”)
Presuming all strategies have a curve of diminishing marginal returns as assets under management increase, you would not expect any fund accepting outside money to have expected returns beating the market, but you would expect many of them to have a combination of correlation to the market and expected returns that would make them an attractive component in a basket of broad index ETFs and market-neutral funds. (Assuming risk-adjusted returns are the utility function being optimized. If variance is their preferred risk metric, this results in optimizing Sharpe ratio via mean-variance optimization, MVO.)
It's fair to assume that any fund manager is optimizing the sum of returns from their own personal investments in the fund plus fees from outside investors. They pick the place on the volume/risk-adjusted-returns curve that still keeps their fund attractive enough to outside investors, and maximizes their personal profits (personal returns plus fund fees).
If that optimal point on the volume/risk-adjusted returns curve for their particular strategy is at a point where risk-adjusted returns beat the market, then they maximize their returns by either never accepting outside funds (prop shops) or by not accepting additional funds and gradually buying out their investors (such as RenTech's famous Medallion fund).
So, (assuming diminishing marginal returns) it's not rational to simultaneously accept outside investment and beat the market on a risk-adjusted basis.
I suspect that many market-neutral funds could reliably beat the market on a risk-adjusted basis, but their volume/risk-adjusted-returns curve shape and their fee structures make it optimal for them to operate at a point on that curve where their expected returns are below the market.
Note that this rational self-interest optimization below market returns isn't bad for the investors. Under most fee structures, it ends up being close to maximizing total investor returns. Increasing percentage returns would mean kicking out some investors.
RenTech's Medallion Fund and many prop shops, and funds that are currently slowly buying out their investors seem to indicate there are at least some strategies where the optimal volume/returns trade-off is above market returns. You would expect all funds that are currently open to more outside investment to either be young and lacking capital or else have an optimal point on the volume/returns curve that is below market returns.
Note that as previously mentioned, a simple mean-variance optimization on a basket would allocate funds to both index ETFs and market-neutral funds returning a bit under the market on average. It's entirely possible that both fund investors and fund managers are being perfectly rational.
Of course, there are also plenty of people out there who fool themselves into thinking they know what they're doing. The world certainly isn't perfectly rational.
I'm just saying that in a perfectly rational world, assuming (1) utility function of risk-adjusted-returns (e.g. Sharpe ratio, resulting in mean-variance-optimization) (2) declining marginal returns on investment, you would expect all funds accepting outside investors (except for young funds desperate for money) to under-perform the market in expected returns.
Now, everyone talks about Sharpe ratio on the outside, but the particular risk models actually used internally by any fund are almost certainly not just variance of returns. I presume all funds simultaneously apply a mixture of commercially available risk models and internally developed risk models. Sharpe ratio is far from perfect, but it's a good least-common-denominator for discussion, and doesn't give away any secret sauce.
Side note: it would be rational for someone to take you up on your proposal and simply use index futures to take a highly leveraged position on your benchmark index. As long as they had enough money to make you whole in the case of bad tracking error and large downturns, their expected returns would be large. However, you wouldn't be very smart to take such an agreement instead of just getting leverage yourself. This demonstrates why risk-adjusted returns are usually more important than expected returns.
A fund manager can replicate the index with derivatives and overlay their alpha on top of it.
Google “alpha overlay” or “portable alpha” for more info.
These types of products were more popular about 10-15 years ago.
Firms typically charge just for the alpha for these strategies.
You are asking for the manager to sell you an option.
For free. This is why no one will agree. But if you price this as an option, and pay for the contract I can this working out.
For analogy, consider school students trying to get all the questions right on the test. The first scenario is equivalent to one student studying hard to find the right answers. The rest of the class copies his answers and benefits from his efforts. The other scenario is no student trying hard, them all failing, but succeeding because the teacher curves the grades.
Note that both of these scenarios, especially the second scenario, results in stock prices which become increasingly detached from the economic reality of companies in proportion to the extent to which passive investing becomes prevalent.
For instance, assume stock XYZ is a bad investment but is in the S&P 500. If 90% of funds are actively managed, maybe they can sell a sufficiently large amount of it to push it out of the S&P 500 and save the passive investors from owning it. But if 90% of funds are passively managed, even if XYZ is hot garbage, the 10% of passively managed funds cannot possibly sell enough to make up for the fact that 90% of the market participants are indiscriminately buying a terrible stock.
Passive investing breaks the market to some extent. The free market system is predicated on having rational participants, not zombie participants.
S&P + nvidia was better than just S&P over the last 5 years.
You're giving an example of beating the market in the past, which is not useful. You can do that with blind luck.
There are funds that beat them often. Is your claim they don’t exist? Or that you can’t find them.
When you say funds did "exactly that", the "exactly that" you're talking about is not the thing OP is asking for.
Taking on 90% of upside and 100% of downside is one way to make a convincing argument, and nobody does it.
Let's make the dice analogy. You can't make a convincing argument that you will roll a 5, even though people roll 5 all the time. Talking about people that rolled 5 in the past is proving entirely the wrong point.
The reason why no fund will take that deal is the market for investments is much more favorable to managers than that.
That's the problem. When you use the phrase "exactly that", you're making a claim that you're not talking past.
I agree that this is a talking past situation. But that makes your original post wrong, because of how you used the phrase "exactly that".
> The reason why no fund will take that deal
It's less about this specific deal and more about any deal that shows confidence.
I didn't actually forget, of course, but I didn't get around to looking at the numbers every year. And when I did, I hardly ever changed anything.
Of course, buying Apple in 1997 was also an important factor.
Had the fare, boarded the right train at the right time.
I’m not bitter or anything.
Bitcoin was like 15-20k at the time of the FTX collapse and is now 60k again like the highs in 2021.
https://www.investopedia.com/ask/answers/110415/what-are-dor...
So not until you retire.
I sometimes worry if I have a forgotten paid subscription on an e-mail of mine I don't check, that slowly drains a bank account I forgot I have. There's just Too Many Accounts, and Too Many Subscriptions.
* https://twitter.com/jposhaughnessy/status/115517108366392524...
While I do believe set-and-forget passive investing is best for the vast majority of people, last time I checked that Fidelity study does not actually exist, and the story is apocryphal (no one seems to be able to actually link to it).
If you ask Fidelity about it, they'll tell you it does not exist:
* https://www.morningstar.com/columns/rekenthaler-report/archi...
There are too many of these apocryphal stories out there of various kinds. Sorry that this one appears to be too.
"What Does Nevada’s $35 Billion Fund Manager Do All Day? Nothing"
This is the actual title of the article, the page, and the printed version. There was no reason to have edited this except for optics. If true, that's absurd, dang.
The system even automatically removes certain clickbait elements, for instance "How" is stripped out of submitted titles.
1. The benchmark for hedge funds is not the sp500, it’s the bond market
2. Because the sp500 is inherently a bet, that America’s top few companies will perform well. This is not a purely risk free, hands off bet.
If you bought the Japanese Index fund, the Nikkei, even today it hasn’t returned to its 1980 peak
You might say “I’ll just get a global index”- in which case congrats, you’ve underperformed hedge funds!
3. There are more factors than just investment returns- ie volatility (Sharpe), drawdowns, etc
So despite what HN seems to think, the hedge fund industry is not in fact, full of idiots.
There is not _a_ benchmark for "hedge funds" as they are not really _a_ thing.
In some cases S&P 500 may be an appropriate benchmark. Unless Bill Ackman is not a true hedge fund manager, I guess. "In 2023, Pershing Square’s 20th year, Pershing Square Holdings generated strong NAV performance of 26.7% versus 26.3% for our principal benchmark, the S&P 500 index."
I say this as a mostly Firefox user on every platform. When the Firefox experience sucks too much, I switch to Chrome or Samsung Internet.
(Well, Firefox itself has a number of open bugs that haven't been fixed for a long time)
- strategy is limited up to max 1mio per account (well, maybe 2 pr 3)
- you need a tailored software, tools like MT/et al wont help you
- with a leverage of 5-10, its possible to achieve gigantic returns
- system needs to be capable of going short as well
- your individual application should abstract-away all dauly charting&news noise: what counts is statistics and propability only, do not check CNN et al
EDIT: - this approach cant be done by ANY institutional corp due to regulations, so they are not doing it
In case of public funds:
Depending on the jurisdiction, funds are allowed to invest only in certain securities, like stocks or bonds. In most countries, they are not allowed to use all available products; esp all products which offer high leverage (and highlosschances) are not allowed for institutionals.
A private prop trading company may do it, though they are not managing billions (as the pension fund in the article); and those prop traders in reverse can not that easily attract "other people money"