Rule #1 Investing.

[Ziggurat]

There are many mutual funds out there that routinely outperform the indexes.

Can you name some? And just as importantly, do they have similar risk characteristics to the index you're comparing it to? Because there isn't only one index either.

I'd say for the average investor, mutual funds are the way to go.

Index funds ARE mutual funds (ignore ETF's, since the distinction is irrelevant for the current conversation).

 

[Esperdome]

Originally Posted by Esperdome
There are many mutual funds out there that routinely outperform the indexes.

Can you name some? And just as importantly, do they have similar risk characteristics to the index you're comparing it to? Because there isn't only one index either.

I'm not qualified to recommend anything to anybody, but that being said, I've had good luck with T Rowe Price's New Horizons for several good stretches. Researching fund performance is very easy these days, and if I owned a dog that couldn't outperform it's index I would unload it in a hurry.

Index funds ARE mutual funds (ignore ETF's, since the distinction is irrelevant for the current conversation).

Yes, I was making the point that your average investor would probably do better in mutual funds than stocks by themselves. Of course, trackers are mutual funds with the advantage of paying quarterly dividends. But if you owned a Dow or S&P tracker for the last six years, you would be finally getting close to breaking even. (Russell 2000 trackers are doing much better)

 

[blutoski]

There are many mutual funds out there that routinely outperform the indexes.

Why is this? Well, the people running the funds devote a huge amount of their time to research, and I hate to say it, may be privy to insider info your average pure stock investor doesn't have access to.

I'd say for the average investor, mutual funds are the way to go.

I think this is true with one caveat: mutual funds that mirror the indexes are the way to go.

The benefit of mutual funds has evaporated since Wealthy Barber. Modern mutual funds are too specialized, and essentially act like stocks, such that you have to pick a good mix of mutual funds to mitigate your risk. Another problem is that the funds that have out performed the market have not been doing it very long and could regress to the mean tomorrow. The funds that did poorly were dissolved and are not available to make mutual funds look bad as an investment, so the statistics are skewed toward making the investment vehicle of mutual funds look better than it is.

Motley Fool is a good resource.

 

[Esperdome]

I think this is true with one caveat: mutual funds that mirror the indexes are the way to go.

The benefit of mutual funds has evaporated since Wealthy Barber. Modern mutual funds are too specialized, and essentially act like stocks, such that you have to pick a good mix of mutual funds to mitigate your risk. Another problem is that the funds that have out performed the market have not been doing it very long and could regress to the mean tomorrow. The funds that did poorly were dissolved and are not available to make mutual funds look bad as an investment, so the statistics are skewed toward making the investment vehicle of mutual funds look better than it is.

Motley Fool is a good resource.

While I agree with most of what you are saying,I still think a well managed fund will beat an index fund if you can stomach a little more risk.

Just look at past performance.

 

[blutoski]

While I agree with most of what you are saying,I still think a well managed fund will beat an index fund if you can stomach a little more risk.

Just look at past performance.

Disclosure on every mutual fund: "Past performance is not an indicator of future returns." And it's true. A lot of the ones that crashed and burned had good "past performance." That's why they were overvalued.

Mutual funds are just as vulnerable to "we got lucky" as any other investment. A lot of those mutual fund divas that you'd see on the front pages of investment or stock magazines were nobodys a few years later.

 

[Badly Shaved Monkey]

I suppose a real test of business or trading acumen would be to compare two hypotheses.

Given that we have a cohort of already-successful business people, the hypothesis is that their future performance is better than random. That avoids the need to try to look at past records and estimate probabilities, which is problematical in many ways.

I can see a number of obstacles that would make such a prospective trial difficult, but I presume that in this big world of ours it has been done.

 

[Ziggurat]

I'm not qualified to recommend anything to anybody, but that being said, I've had good luck with T Rowe Price's New Horizons for several good stretches. Researching fund performance is very easy these days, and if I owned a dog that couldn't outperform it's index I would unload it in a hurry.

Its a small-cap growth fund which is, not too surprisingly, more risky than the S&P 500. It has also done better than other funds in its category recently. But it hasn't really outperformed its index: compare PRNHX (New Horizons) to VISGX (Vanguard's small cap growth index) and you'll see that its performance has been pretty similar, and over the stretch from the beginning of 2002 to today, it's done slightly worse. In fact, going back to the 10-year history, it has slightly underperformed both the S&P 500 AND other funds in its category. Which means that really it has not been a consistent performer at all. Five years ago, it wouldn't have been a great bet that the next five years would be successful. And today, it's not that great a bet that the next five years will be like the previous five years and not like the five years before that.

Yes, I was making the point that your average investor would probably do better in mutual funds than stocks by themselves. Of course, trackers are mutual funds with the advantage of paying quarterly dividends. But if you owned a Dow or S&P tracker for the last six years, you would be finally getting close to breaking even. (Russell 2000 trackers are doing much better)

Are there any Dow-based index funds? Seems like a stupid idea, since it's very un-diversified. The Russell 2000 index has done better than the S&P 500 recently, but it's also not in the same category since it's small-cap and the S&P is large cap.

As for breaking even with the S&P 500, well, that's if you were just sitting on it the whole time. But if you were either a) investing in it during the downturn or b) rebalancing into it from other asset classes (bonds, small cap, etc) then you could be up quite a bit.

Index funds don't remove the need for asset diversification, but they're a damned good bet, and beating them over any long stretch of time is very hard to do and even harder to predict ahead of time who will be able to.

 

[Ziggurat]

While I agree with most of what you are saying,I still think a well managed fund will beat an index fund if you can stomach a little more risk.

Not really. Mutual funds which accept extra risk to beat a given index usually do so by moving to a riskier asset class than the index (for example, small cap versus large cap). But you can buy index funds by asset class, too: you aren't limited to the S&P 500. So if you want to take on more risk than the S&P 500, you can do that easily enough while remaining in index funds. Plus, actively managed funds typically have higher tax liabilities than index funds, which generally doesn't show up on "performance" graphs but can make a real difference to actual investors.

 

[Esperdome]

Not really. Mutual funds which accept extra risk to beat a given index usually do so by moving to a riskier asset class than the index (for example, small cap versus large cap). But you can buy index funds by asset class, too: you aren't limited to the S&P 500. So if you want to take on more risk than the S&P 500, you can do that easily enough while remaining in index funds. Plus, actively managed funds typically have higher tax liabilities than index funds, which generally doesn't show up on "performance" graphs but can make a real difference to actual investors.

Well, to each his own. I would say regardless of where you put your money, don't make the mistake of not checking on it periodically. Conditions change from when you made your purchase that can have big consequences.

 

[EricGu]

Mutual funds - with the exception of index funds -are a bad deal.

The vast majority of them underperform the market, and unless you're holding them in a 401K, their trading activity can cost you a lot in taxes

Index funds are nice. They have far lower maintenance fees, and they don't typically do a lot of buying and selling.

Three pieces of advice:

1) Buy for the long term. The ideal time to sell is never (can't remember who said that...) - the big returns are in holding a quality stock over decades.

2) Avoid most professional financial advice. Advisors are in the business to make their money off of fees.

3) As a small investor, you can beat funds on small stocks, which are too small for them to invest in. But there is a fair amount of risk to be had there.

If you're starting out, the Motley fool books (and website at fool.com) are good places to start out.

Oh, and a last bit of advice...

All those people pushing systems would need to be pushing the systems if they worked - they would just follow the system.

 

[marting]

My advice is:

1. If you don't want to get into the intricacies of analysis, buy index funds.
2. If you wish to invest in individual stocks then:

Learn finance basics. You must be able to read and understand balance sheets and income statements.

Learn to read SEC Edgar filings. This is the single greatest advantage that small investors have recieved and far too few take advantage of it. They are free and real-time. A very useful exercise is to pick a few stocks then review the 10K,Q filings 5 years earlier. See how good you are at analyzing the information and predicting how well they will do re competitors and the market by following the filings for 2 or three years. Particularly useful is to look at small and or financially stressed companies. Watch how problems are handled. All companies have problems but how they manage them and execute on new opportunities is most important.

Favor investing in businesses you understand. Read analyst reports on them and their competitors. Ignore the buy/strong buy ratings - what matters is the analysis. If you are good at reading the free Edgar filings, an analyst report will offer little new and you can probably spot things they miss.

It takes work and you are competing with some very capable people. The big money and best people focus on the large cap stocks so you might find an edge in stocks that are smaller but stay away from otcbb and pinks. While there are fewer good fundamental analysts on these, they tend to be overpriced as people are going for the speculative big win.

Market inefficiencies tend to occur in anomolous situations such as accelerated (less than 6mo) lockup terminations and peculiar financing such as convertable bonds/pref stock that re-prices when the stock drops.