Bdog93 wrote:Okay, I know the" bogelhead way" involves using mostly index funds but...
I was noticing that the Fidelity Contrafund has a 10 year return of 9%. ( Compared to 6% for the Vanguard Total Stock Index Fund). I realize the expense ratio on the Fidelity fund is much higher ( 0.81% vs 0.16% or even lower for the admiral shares of the Vanguard fund) but doesn't this 3% additional return offset the higher expense ratio?
It does. Stated returns and growth charts are always after
expenses, i.e. what you'd hope.
Or am I missing something here? Ten years seems like a long enough track record that this return is not just a fluke...
What you're missing here is that ten years is in fact not enough. It just isn't. Hard to believe, I know, but true. That is why they have to say "past performance is no assurance of future results." You are right at the core of the active-versus-passive debate. The actively-managed funds you hear about
, the ones that are in 401(k) funds, are all like Contrafund. They all have really significantly higher return than the index. They all look as if they have a "track record," and supporters always say "it can't be just a fluke, this is proof that there really are managers who can identify underpriced stocks."
The big gotcha is that there are 7,000 or so mutual funds out there, and you only hear
about the ones that are like Contrafund.
The thing that is astonishing to me is how very quickly people forget and edit their memories when an active fund goes bad. Do the names "Bill Miller" and Legg Mason Value Trust mean anything to you? Five years ago, Miller would have been the proof that there is such a thing as skill. Miller was universally lionized as a brilliant value investor who beat the S&P fifteen years in a row. People wrote books about him: "The Man Who Beats the S&P: Investing with Bill Miller." Reporters wanted to know his opinions on everything financial. Then his fund collapsed. In just three years, it lost back all the gains it had made over the S&P. True, someone who invested in the fund just before the run-up would, in fact, be no worse off than in the S&P, but no better either. However, the vast majority of the investors and dollars that flowed into the fund did so when it was high.
If I can give a reason why track records are misleading... if you look closely at funds that have outperformed, you almost always see the same thing: the performance is bursty
. You never see the fund just steadily pulling ahead year after year. What you typically see are periods of outperformance that last two or three years. In the case of Contrafund (FCNTX), comparing it against the Vanguard 500 Index fund (VFINX) (because Total Stock doesn't go back far enough), what I see by eyeball--not a formal analysis--is that there are really just two fairly periods during which FCNTX is widening the lead over VFINX. And the last one was five years ago, so it's included in the ten-year results.
The burstiness doesn't mean the outperformance isn't real, but it does mean that you'd need an awfully long track record to be sure. Let's say you get an upward or downward burst every five or ten years or so. And make no mistake about it, you do get downward bursts, too, but you don't see those funds in your 401(k)'s because they get tossed out--after
they happen. Well, if that's the pattern, then the funds that have happened to have a upward burst in the past ten years look good. FCNTX, to be sure, has had two.
There's another pattern you need to be aware of, though I'm not sure it applies to Contrafund. Many "legendary" funds, such as Fidelity Magellan, had their best years in the beginning when the fund was small and nobody had heard of them.
Then their growth calls attention to them, the fund becomes famous, and everyone piles in. Often, the people who pile in don't do either particularly well or particularly poorly, but the point is that the reputation was earned for performance at a time when nobody knew about the fund and few people were in it. Contrafund is an $80 billion fund now, and there is a recognized issue with size. As the size of a fund increases, it becomes increasingly difficult for any fund to be terribly different
from the index.
Now make no mistake about it: it is quite possible that Contrafund's outperformance could continue, so you really really really need to make your own decision and not let anyone talk you into it. If you went for Total Stock instead of Contrafund and Contrafund continued to do well, you'd hate me.
But I'll say this much it can be shown that "investing in whatever fund had the highest return over the last ten years" does not work. Outperformance does not
persist. Morningstar itself has acknowledged that its famous star ratings have no predictive value.
Annual income twenty pounds, annual expenditure nineteen nineteen and six, result happiness; Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.