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"Just How Useless Is the Asset-Management Industry?"

An interesting article on the Harvard Business Review blog, by Justin Fox, on a topic that most investors already have a strong feeling (or should I say “bias”?) about. It may not, therefore, change anyone’s mind — but the fascinating lead shows the active-management roots of passive-management legend Jack Bogle:

Writing under a pseudonym in the Financial Analysts Journal in 1960, mutual fund executive Jack Bogle made “The Case for Mutual Fund Management.” Bogle took the track records of four leading mutual funds going back to 1930 and compared them to the performance of the Dow Jones Industrials. Not only had the four beaten the Dow, handily, but during the period from 1950 through 1956, for which the brokerage Arthur Wiesenberger & Co. (the Lipper/Morningstar of its day) had calculated mutual fund volatility, all but one of them had fluctuated less than the Dow.

“[M]utual funds in general have met the test of time, and performed in keeping with their stated policies and goals,” Bogle concluded.

As tests go, Bogle’s had its flaws. The fact that four funds (they’re not named in the article, but Bogle once told me they were Massachusetts Investors Trust, Investors Incorporated — now Putnam Investors — State Street, and Wellington) that had survived since 1930 had performed well didn’t say anything about the performance of the many funds that didn’t survive, or the new ones that popped up in the 1950s. But it’s quite possible he was right that the tiny mutual fund industry of the 1930s, 1940s, and early 1950s had served its investors admirably.

By 1960, though, the mutual fund business was booming, and selling investors on high-cost, high-risk products called “performance funds.” Within a few years, researchers armed with more statistical skills (and these new things called computers) were examining the industry’s performance and finding it wanting. “[W]e find no evidence to support the belief that mutual fund managers can outguess the market,” Jack Treynor and Kay Mazuy of the consulting firm Arthur D. Little reported in the July-August 1966 HBR (sadly, we don’t have the article online). Multiple academic studies soon backed up that conclusion.

They’ve continued to back it up ever since. After costs, actively managed mutual funds trail the market. Yet while passively managed, much-lower-cost index funds have been available since 1976, when Bogle — who had a change of heart and, perhaps more to the point, had been ousted from his job running Wellington Management — launched the Vanguard 500 Index Fund, most investors still put most of their money in the hands of active managers.