Index funds thump 82% of actively managed funds

New research confirms that a simple exchange traded fund (ETF) tracking an index can beat most professional fund managers

Mike King

Mike King is a Fool.com.au Investment Analyst and Writer. He caught the investing bug more than a decade ago, at a time when the U.S. had invaded Iraq and fear reigned in the markets. His initial success as the markets took off encouraged his passion and thirst for knowledge. With 13 years behind him at one of Australia's largest domestic banks, Mike's passion for stocks led him to join a boutique funds management firm, where he stayed for four years. A seven-year stint in equity research at one of the largest investment banks in the world followed that, giving Mike a thirst to pursue his passion further. Mike holds a Diploma in Applied Finance and Investment and a Graduate Certificate in Financial Planning. His passion is to help retail investors invest better, and that passion was one of his primary reasons for joining The Motley Fool Australia in late 2011. Mike has written thousands of articles since joining, including for Fairfax Media, Yahoo!7, Ninemsn and has also appeared on ABC's The Business. You can see all of Mikes' holdings here

Published March 1, 2016 10:41 am AEDT

The Vanguard 500 Admiral Index Fund has outperformed 82% of actively managed US funds over the past 10 years – earning an average of 6.3% annually – and beating the managers by around 0.9%.

That may not sound like much, but on an investment of $10,000, that's an extra $1,566 after 10 years.

Analysis in Australia has also revealed that a high percentage of actively managed funds fail to beat the index.

The exchange traded (or index) fund (ETF) tracks the performance of 500 of the largest US companies, with the top 10 being a who's who of corporate America, including Apple, Alphabet (ex-Google), Microsoft, Exxon Mobil, Berkshire Hathaway, Amazon and Wells Fargo – and is benchmarked against the S&P 500.

The results are using data from Morningstar and analysis by AARP (formerly the American Association of Retired Persons), and compared to 879 domestic US funds investing in large companies with a mix of value and growth stocks.

But the outperformance of the ETF is actually even better because not all actively managed funds survived the whole 10 years. Morningstar says around 363 managed funds went out of business during that 10-year period.

Had they also been included in the group of actively managed funds, the average annualised return of the funds would have been only 4.9%. That means the index fund beat the entire group by 1.4% or roughly $2,257 more than its peer group over 10 years for each $10,000 invested at the start.

That highlights two important points.

Not every actively managed fund will be around in 10 years' time – how do you know the one you pick won't go out of business?
The outperformance of the index fund over the managed funds is roughly the difference in management fees. The index fund costs just 0.05% while most managed funds charge around 1% in management fees.

Foolish takeaway

While 82% of actively managed funds couldn't match the performance of the index fund over 10 years, 18% managed to outperform – so not all fund managers are equal. You could also say that investors have a 1 in 5 chance of picking the right managed fund that will outperform the market over the long term.

If you have some of your investments in managed funds, you might want to check what their performance has been over the long term, after all fees have been considered.

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