The lengths the financial media will go to anoint a new financial guru fascinates me. By “financial guru”, I mean someone who can tell investors which stocks to buy or sell, what the direction of the market will be, or what fund manager has the current “hot” hand.
Here’s the way this shell game works: The media needs interesting content that will attract viewers. Investors want to believe there are experts who can tell them how to achieve outsized returns without taking commensurate risk. There are no end of self-proclaimed financial pundits willing to fill this role. They seek not only their fifteen minutes of fame, but also the possibility of attracting your assets to “manage.” More assets means more fees. This is the perfect storm for the media. The need is there. They fill it. It is a win/win/lose. Everyone wins except the investor.
The most compelling example of this phenomenon is hedge funds. The managers are supposed to be “masters of universe.” If anyone could “beat the markets”, you’d think it would be the brilliant, obscenely compensated managers of these funds. Yet, according to an article in Forbes, 2012 is shaping up as the second straight year that “dumb unmanaged mutual funds that simply track the U.S. stock market” have “creamed” the returns of hedge funds.
There is mounting evidence that, when some hedge funds outperform, they may be doing so illegally, relying on inside information. The SEC publishes a list of enforcement actions on its web site. It includes a disturbing number of financial professionals, hedge fund managers, and others (most of which have not been found to have engaged in any wrongdoing).
Managers of traditional mutual funds have an even more dismal record of underperformance. An article by Jason Zweig in The Wall Street Journal looked at the returns of “tactical” funds. The managers of these funds believe they have the ability to move in and out of the markets in an effort to smooth out short-term volatility. Zweig used Morningstar data and looked at the performance of 42 tactical funds. He found that, over the past three years, they gained an average of 4.9 percent a year, which was a whopping 6 points a year below their benchmarks.
This poor performance was terrible for investors in these funds, but not so bad for the fund managers. Zweig noted the annual expenses charged to investors for the privilege of investing in these underperforming funds was 1.46 percent, which is nearly 15 times the fees charged by the Vanguard Balanced Index Fund (VBINX).
When it comes to fees and underperformance, no one can challenge the record of hedge fund managers. As noted in an article in Forbes, even though the average hedge fund manger has underperformed the market for the past 20 months, there are 31 men on the Forbes 400 list of richest Americans who made much of their money running hedge funds.
The financial media and the securities industry have a strong motivation to persuade you to believe there is a financial guru out there who can salvage your decimated retirement account. Don’t believe them.
Dan Solin is a senior vice president of Index Funds Advisors. He is the New York Times bestselling author of The Smartest Investment Book You'll Ever Read, The Smartest 401(k) Book You'll Ever Read, The Smartest Retirement Book You'll Ever Read, The Smartest Portfolio You'll Ever Own, and The Smartest Money Book You'll Ever Read.
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