Index Fund Investor vs Investment Returns

Do index fund investors do as well as their investments?

I’m not much of an indexer. For large company US holdings, I could flip a coin and be okay with either active or passive funds. I might come out a little behind or ahead depending on what happens, but I don’t believe it’ll affect my big-picture goals.

In my mind, behavior matters a lot more than investment selection.

Nevertheless, Vanguard S & P 500 index fund investors matched their investment fairly well over the past 10 years. The 10 year average annual return (as of 12/31/09) for VFINX was -1.03%, while the investor return was -0.99%. Investors actually did a little better.

Compare this to those who invested in the decade’s best mutual fund and lagged by 29% per year.

Is Indexing Better?

It may be tempting to say that index funds are better than actively managed funds because investor returns more closely match investment returns. This may be true, but I don’t think it is.

I’d propose that index investors tend to be less active in general. They believe that “doing stuff” all the time will not help their investment returns. As a result, they pick a program and stick with it. What are they going to do – switch to a better index fund?

They also tend to be fee conscious. Even if a fund manager is beating the market, they may be turned off by the concept of paying higher management fees. “The tortoise and the hare…” they’ll say.

In short, they do less.

The Head Fake

Randy Pausch discusses the “head fake” in his Last Lecture. The idea is that we can benefit from things in ways we didn’t expect. When children play sports, they don’t just learn the rules and motor skills specific to that sport. They learn about teamwork, perseverance, success and failure, strategy, and more.

Index investing may be similar. By deciding to be passive, index investors benefit from staying put in investments and matching their performance. It sure beats lagging behind.

Explore:

  1. Randy Pausch – The Last Lecture
  2. Investor vs Investment Returns