Putting Active Management to the Test

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BackInTheBlack
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Putting Active Management to the Test

Post by BackInTheBlack » Mon Nov 04, 2013 11:50 pm

I felt the following deserved its own thread, and can thereby serve as a reference for an experiment testing the merits of a multi-tiered screening process for active funds.
Tycoon wrote: Okay BackInTheBlack, you have made your point and got my attention. Which actively managed funds are going to outperform their respective indexes?

Alright, I'll give it a shot:

Over the next decade, so 10 years from today, I expect the following stock funds to beat their respective benchmarks/categories:

DODFX: Dodge & Cox International Stock ------------ benchmark: ACWX (iShares MSCI ACWI ex US Index)
FLPKX: Fidelity Low-Priced Stock K-shares ------------ benchmark: VMVAX (Vanguard Mid-Cap Value Index admiral shares)
MPGFX: Mairs & Power Growth -------------- benchmark: VLCAX (Vanguard Large Cap Index admiral)
OTCFX: T. Rowe Price Small-Cap Stock --------------- benchmark: VSGAX (Vanguard Small Cap Growth Index admiral)
PRDGX: T. Rowe Price Dividend Growth --------------- benchmark: VIG (Vanguard Dividend Appreciation Index ETF)
PRFDX: T. Rowe Price Equity Income --------------- benchmark: VLCAX (Vanguard Large Cap Index admiral)
RPMGX: T. Rowe Price Mid-Cap Growth -------------- benchmark: VMGMX (Vanguard Mid-Cap Growth Index admiral)
SEQUX: Sequoia ------------- benchmark: VLCAX (Vanguard Large Cap Index admiral)
TRBCX: T. Rowe Price Blue Chip Growth -------------- benchmark: VLCAX (Vanguard Large Cap Index admiral)
TRMCX: T. Rowe Price Mid-Cap Value -------------- benchmark: VMVAX (Vanguard Mid-Cap Value Index admiral shares)
VDIGX: Vanguard Dividend Growth -------------- benchmark: VIG (Vanguard Dividend Appreciation Index ETF)
VPMAX: Vanguard Primecap Admiral shares -------------- benchmark: VLCAX (Vanguard Large Cap Index admiral)
VWNAX: Vanguard Windsor II Admiral shares --------------- benchmark: VLCAX (Vanguard Large Cap Index admiral)
VHCAX: Vanguard Capital Opportunity Admiral shares --------------- benchmark: 90% VLCAX/10% VEUSX (Vanguard Large Cap/European Index admiral)
VGELX: Vanguard Energy Admiral shares --------------- benchmark: VENAX (Vanguard Energy Index admiral)
VEIRX: Vanguard Equity-Income Admiral shares ------------- benchmark: VLCAX (Vanguard Large Cap Index admiral)
VEVFX: Vanguard Explorer Value ------------- benchmark: VSMAX (Vanguard Small Cap admiral)


As for balanced funds:

BERIX: Berwyn Income --------------- benchmark: VSMGX (Vanguard LifeStrategy Moderate Growth Investor shares; this is a best-fit index fund-of-funds)
DODBX: Dodge & Cox Balanced ----------------- benchmark: 55% VLCAX / 15% EFA /30% VBTLX
OAKBX: Oakmark Equity & Income ----------------- 65% VLCAX / 10% EFA / 25% VBLTX
PRSIX: T. Rowe Price Personal Strategy Income ---------------- 28% VLCAX / 14% EFA / 40% VBLTX / 18% VUSXX
PRWCX: T. Rowe Price Capital Appreciation ---------------- 56% VLCAX/ 5% EFA / 28% VBLTX / 11% VUSXX
RPBAX: T. Rowe Price Balanced ---------------- 45% VLCAX / 20% EFA / 35% VBLTX
VWENX* : Vanguard Wellington Admiral shares ------------------ 55% VLCAX / 10% EFA / 35% VBLTX

*Wellington is a great fund in most respects, but the duration of their bond portfolio is a bit worrisome (not to mention asset bloat). Still, over a 10-year time period I expect that to be a minor speed-bump.

**I used the best index proxies available through iShares and Vanguard, always choosing the lowest-cost option, either in ETF or Admiral share fund form (except for Vanguard LifeStrategy Moderate Growth fund which is only offered in investor shares).
--------------------------------

While some of the above don't meet every single one of my standard criteria, the ones that don't, make up for that in other ways and thus deserve to be on the list. Cost was the #1 most important factor (I selected admiral shares, etc. where possible as well), persistent risk-adjusted outperformance was important, portfolio turnover was significant, fund family history/reputation was a factor, and manager tenure was important but not as crucial as the other screening factors.

Let's check back on this thread after 10 year shall we? Considering the broad array of funds I listed, I feel that a score of 70%+ would help to refute the notion that choosing outperforming active funds is mere anomaly. Certainly, compared to the low probabilities of outperformance unanimously ascribed to active fund strategies, a success rate of 7/10 would be statistically significant and potentially very meaningful to investors in general.

*edited to add: Active funds should be held in tax-deferred/exempt accounts, generally speaking, to achieve a decent chance at outperformance. Also, I chose to omit bond funds, because that bond markets are more difficult to index, and might be give the results of my active list an artificial bump, which, while potentially good for my argument, is not good for an objective statistical analysis down the road. I am trying to prove here that one doesn't need to use gimmicks or rig the game to beat benchmarks.


Why, you may ask, would 7/10 funds in a portfolio outperforming their benchmarks by seemingly trivial amounts matter? I'll show you why:

Say your 7 winners outperform by an average of 1.5%, and your losers underperform by the same amount: that averages out to an overall portfolio outperformance of 0.6% annually. To illustrate the effects, let's compare a $100,000 investment in the active portfolio to its benchmark(s). Let's assume that the benchmark returns 10.0% over a 35-year time horizon, or a typical (equity) investing lifetime, whereas the active portfolio averages a 10.6% annual return. At the end of the time period, the (costless) benchmark would produce an ending amount of $2,810,244 (rounded), while the active strategy produces an ending portfolio amount of $3,399,613, or a total difference of $589,369 or 20.97%. IF an investor could reasonably hope to achieve such a seemingly miniscule advantage in annual return, obviously the rewards are potentially huge. The simple effect of compounding is why persistent alpha remains so alluring, and why the potential merits of active management are worth reviewing from all possible angles, again and again.
Last edited by BackInTheBlack on Fri Nov 08, 2013 5:43 pm, edited 2 times in total.
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Tonen
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Re: Putting Active Management to the Test

Post by Tonen » Tue Nov 05, 2013 3:06 am

Two thoughts
You can't assume outperformance and underperformance will be equal. "7/10" is irrelevant - what is relevant is overall portfolio return. No point having 7 winners if one of the other 3 is a complete stinker. In any case, you have a 17% chance of randomly having 7 or more funds win - not significant. 8+ is getting there

Rather than making an assumption as to what is a significant difference, it'd be better to calculate what % outperformance is required to give a p value of <0.05 to disprove the null hypothesis that "you can't select funds that will outperform their benchmarks". That would take some pretty heavy number crunching. Nevertheless, if you don't do that up front, there will likely be no agreement at the end of the 10 years as to whether you found anything or not.

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Re: Putting Active Management to the Test

Post by livesoft » Tue Nov 05, 2013 3:22 am

Heading into 2000, I owned 5 of the funds listed in the OP. I do not own any of them now.
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Re: Putting Active Management to the Test

Post by Robert T » Tue Nov 05, 2013 7:34 am

.
I just checked in on some of the actively managed portfolio I set up in 2009 (Who is the fairest of them all). I gave some thought to each of them when they were set up (not randomly done) and added a couple more. Brief description on each – all portfolios have an average stock:bond ratio of about 75:25, and most are 50:50 US:non-US
  • Cumming-Ackman-Lampert – only contains 6 stocks, the top two stocks held by each of the highly concentrated hedge fund managers Cumming, Bill Ackman, and Eddie Lampert from the quarterly 13Fs. Stocks are changed in the portfolio as the stock composition of the 13Fs changes.
    Multiple managers – includes funds that showed some alpha in the Fama-French three factor analyses, and/or where highly regarded at the time.
    International Value Advisors – the managers of this fund had developed a good track record at First Eagle before setting up their own fund company.
    Dodge and Cox – highlight regarded. Perhaps the most 'index-like' of all the actively managed portfolios
    ETF* – my personal returns (a portfolio with a 75:25 stock:bond portfolio, 50:37:13 US:EAFE:EM, with 0.2 and 0.4 factor load), very similar to the linked portfolio.
    Market – World market index.
Annualized returns from start of 2010 to date – almost 4 years
Few observation:

1. The ETF portfolio was structured to have a long-term expected 1.5% return above the market return (due to higher risk exposure). Interestingly this is the difference over this time period.

2. All actively managed portfolios did as well or better than the two passive portfolios. Taxes weren't considered. If they were perhaps the after-tax returns of the ETF portfolio would be higher than those of Dodge and Cox, and International Value Advisors.

3. The Fairholme fund has had highest volatility in 2011 declining 32.4% compared to around 4% to 8% for most of the others. This adds to the challenges of staying the course.

4. The multiple managers portfolio has performed fairly well, but not all funds. For example the Royce International fund significantly underperformed. The challenges with this portfolio is also taxes.

5. The most concentrated portfolio has performed the best over this period, however its likely a reflection of its US concentration (US stocks have done better than Intl. over this period). Nevertheless interesting performance. The challenge with this portfolio is also taxes - the greatest stock turnover was from Bill Ackman, much less so from Cummings, and the top two stock holding of Eddie Lampert has remained virtually unchanged over last 4 years.

Additional note: If we compare only the US side of the ETF portfolio 75:25 stock:bond with the Cummings-Ackman-Lampert and Fairholme portfolios which are essentially US focused funds. we get the following.

Cumming-Ackman-Lampert........14.7%
Fairholme....................................11.3%

ETF US side..................................14.6%

So it seems that if we ensure an apples-to-apples comparison, and account for taxes much of the perceived advantage of active management disappears.

This is a learning exercise. Will keep it going.

Robert
.

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Re: Putting Active Management to the Test

Post by IlliniDave » Tue Nov 05, 2013 9:27 am

For the sake of curiosity, what are the quantitative limits for your criteria and what was the "score" of the various selections you made for the criteria?
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Re: Putting Active Management to the Test

Post by staythecourse » Tue Nov 05, 2013 9:41 am

Please rephrase your test so it is relevant to investors considering active vs. passive. Please report the active fund returns in DOLLAR weighted and not time weighted AND they need to beat their respective indexes by more then 1-2%.

Also I would not be looking at 10 years (a real investor has about 50yrs of investing horizon) so why not make it more appropriate like a 25 yr. bet.

BTW, since 1976 only 5-6 active funds have beaten the SP500 Vanguard index (since it creaation) by more then 1-2%.

Good luck.
"The stock market [fluctuation], therefore, is noise. A giant distraction from the business of investing.” | -Jack Bogle

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Re: Putting Active Management to the Test

Post by MindBogler » Tue Nov 05, 2013 9:59 am

staythecourse wrote:Please rephrase your test so it is relevant to investors considering active vs. passive. Please report the active fund returns in DOLLAR weighted and not time weighted AND they need to beat their respective indexes by more then 1-2%.

Also I would not be looking at 10 years (a real investor has about 50yrs of investing horizon) so why not make it more appropriate like a 25 yr. bet.

BTW, since 1976 only 5-6 active funds have beaten the SP500 Vanguard index (since it creaation) by more then 1-2%.

Good luck.
While I agree that passive investing is statistically the most likely winner over the long haul, why would you arbitrarily choose 1-2%? If a fund beats its respective index by as little as .25% over 25 years I don't think anyone would be complaining. A quarter percent is down in the magnitude of expense ratios however we've all seen what a difference such a small amount makes. Arbitrarily moving the goalposts around doesn't prove your point, it makes you look insecure in the outcome in my opinion.

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Re: Putting Active Management to the Test

Post by Toons » Tue Nov 05, 2013 10:31 am

Have owned Primecap Core since its inception,last time I checked it was outpacing its benchmark, but as with most funds it will probably revert to the mean.Who knows :happy
On the flip side I've also owned and still own shares in Fidelity Magellan for over 20 years :shock:
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Re: Putting Active Management to the Test

Post by staythecourse » Tue Nov 05, 2013 10:41 am

MindBogler wrote:
staythecourse wrote:Please rephrase your test so it is relevant to investors considering active vs. passive. Please report the active fund returns in DOLLAR weighted and not time weighted AND they need to beat their respective indexes by more then 1-2%.

Also I would not be looking at 10 years (a real investor has about 50yrs of investing horizon) so why not make it more appropriate like a 25 yr. bet.

BTW, since 1976 only 5-6 active funds have beaten the SP500 Vanguard index (since it creaation) by more then 1-2%.

Good luck.
While I agree that passive investing is statistically the most likely winner over the long haul, why would you arbitrarily choose 1-2%? If a fund beats its respective index by as little as .25% over 25 years I don't think anyone would be complaining. A quarter percent is down in the magnitude of expense ratios however we've all seen what a difference such a small amount makes. Arbitrarily moving the goalposts around doesn't prove your point, it makes you look insecure in the outcome in my opinion.
It is objectively arbitrary. :D. Many experts, including Mr. Bogle state active fund costs add at least 1-2% drag vs. passive secondary to: transaction costs, higher expense ratio+ 12b-1 fees, turnover increasing STCG distributions, loads, etc... So an investor who is considering active vs.passive on a return basis will not want to know just total return, but total return AFTER the higher cost of active management.

There are NUMEROUS studies showing that it is exactly the higher cost that costs active managment. Since there is no way to itemize ALL the costs I would think 1-2% is a pretty good guestimate.

Good luck.
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Re: Putting Active Management to the Test

Post by FinancialDave » Tue Nov 05, 2013 12:26 pm

Let's check back on this thread after 10 year shall we? Considering the broad array of funds I listed, I feel that a score of 70%+ would help to refute the notion that choosing outperforming active funds is mere anomaly. Certainly, compared to the low probabilities of outperformance unanimously ascribed to active fund strategies, a success rate of 7/10 would be statistically significant and potentially very meaningful to investors in general.

*edited to add: Active funds should be held in tax-deferred/exempt accounts, generally speaking, to achieve a decent chance at outperformance. Also, I chose to omit bond funds, because that bond markets are more difficult to index, and might be give the results of my active list an artificial bump, which, while potentially good for my argument, is not good for an objective statistical analysis down the road. I am trying to prove here that one doesn't need to use gimmicks or rig the game to beat benchmarks.
I suggest if you really believe in this you put $1000 into each of the funds and do a real test. By the way you don't need to use only tax deferred accounts as long as you pay the taxes from somewhere else and re-invest all dividends.

I did much the same almost 3 years ago by putting together 6 portfolios and using $60k of my own money -- two active portfolios and 4 passive.

My thought is you need to compare strategies, not just prove that 70% of your particular picks will beat the index over 10 years. All it takes is one fund to lag by 10% and your averages are shot.

fd
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Re: Putting Active Management to the Test

Post by BackInTheBlack » Tue Nov 05, 2013 1:05 pm

Tonen wrote:Two thoughts
You can't assume outperformance and underperformance will be equal. "7/10" is irrelevant - what is relevant is overall portfolio return. No point having 7 winners if one of the other 3 is a complete stinker. In any case, you have a 17% chance of randomly having 7 or more funds win - not significant. 8+ is getting there

Rather than making an assumption as to what is a significant difference, it'd be better to calculate what % outperformance is required to give a p value of <0.05 to disprove the null hypothesis that "you can't select funds that will outperform their benchmarks". That would take some pretty heavy number crunching. Nevertheless, if you don't do that up front, there will likely be no agreement at the end of the 10 years as to whether you found anything or not.
Very good post, and I see your point. What I was trying to refute was that the probabilities of selecting winning active funds was lower than 50% in all cases, which has been an assumption of just about every passive investor I've ever talked to. I was interested in looking at individual fund performance, not portfolio performance. Still, you make a compelling argument, and I'll augment my experiment to make it more "practical."

Okay, let's make it simple then, I'll "invest" $10,000 in each fund, and see how each stacks up to its benchmark after 10 years. That on its face, should tell us whether or not my screening methodology garners more winners than simple chance would seem to dictate.

While it's not ideal, since nobody really invests this way, I'll also group the stock funds together into one big portfolio, and the balanced in another, and compare those to passive portfolios of similar asset allocation for an apples-to-apples comparison.
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Re: Putting Active Management to the Test

Post by BackInTheBlack » Tue Nov 05, 2013 1:16 pm

staythecourse wrote:
MindBogler wrote:
staythecourse wrote:Please rephrase your test so it is relevant to investors considering active vs. passive. Please report the active fund returns in DOLLAR weighted and not time weighted AND they need to beat their respective indexes by more then 1-2%.

Also I would not be looking at 10 years (a real investor has about 50yrs of investing horizon) so why not make it more appropriate like a 25 yr. bet.

BTW, since 1976 only 5-6 active funds have beaten the SP500 Vanguard index (since it creaation) by more then 1-2%.

Good luck.
While I agree that passive investing is statistically the most likely winner over the long haul, why would you arbitrarily choose 1-2%? If a fund beats its respective index by as little as .25% over 25 years I don't think anyone would be complaining. A quarter percent is down in the magnitude of expense ratios however we've all seen what a difference such a small amount makes. Arbitrarily moving the goalposts around doesn't prove your point, it makes you look insecure in the outcome in my opinion.
It is objectively arbitrary. :D. Many experts, including Mr. Bogle state active fund costs add at least 1-2% drag vs. passive secondary to: transaction costs, higher expense ratio+ 12b-1 fees, turnover increasing STCG distributions, loads, etc... So an investor who is considering active vs.passive on a return basis will not want to know just total return, but total return AFTER the higher cost of active management.

There are NUMEROUS studies showing that it is exactly the higher cost that costs active managment. Since there is no way to itemize ALL the costs I would think 1-2% is a pretty good guestimate.

Good luck.
I'm having a hard time understanding your point, honestly. If the active fund outperforms, then it's already made up for the 1-2% drag you talk about, and is compensating not only for those extra costs, but is also contributing some (likely) alpha in the process. Why would I limit the acceptable outperformance to an arbitrary statistic like that? As I pointed out in the OP, even a seemingly small figure of 0.6% will result in a huge difference in ending portfolio value over significant periods of time. Now, if your point is that a period of 10 years is too short for anything less than 1% to be worth the manager risk, then that's a valid quibble. I would only say that opinions differ, because to me, outperformance is outperformance.
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Re: Putting Active Management to the Test

Post by fishnskiguy » Tue Nov 05, 2013 1:26 pm

B In The B,

Might I suggest you identify your benchmarks now? :idea: If you wait until the end of the test period, you might be accused of cherry picking your bogeys.

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Re: Putting Active Management to the Test

Post by BackInTheBlack » Tue Nov 05, 2013 1:34 pm

fishnskiguy wrote:B In The B,

Might I suggest you identify your benchmarks now? :idea: If you wait until the end of the test period, you might be accused of cherry picking your bogeys.

Chris
Absolutely, I'll post that some time today.
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Re: Putting Active Management to the Test

Post by BackInTheBlack » Tue Nov 05, 2013 1:39 pm

Robert T wrote:.
I just checked in on some of the actively managed portfolio I set up in 2009 (Who is the fairest of them all). I gave some thought to each of them when they were set up (not randomly done) and added a couple more. Brief description on each – all portfolios have an average stock:bond ratio of about 75:25, and most are 50:50 US:non-US
  • Cumming-Ackman-Lampert – only contains 6 stocks, the top two stocks held by each of the highly concentrated hedge fund managers Cumming, Bill Ackman, and Eddie Lampert from the quarterly 13Fs. Stocks are changed in the portfolio as the stock composition of the 13Fs changes.
    Multiple managers – includes funds that showed some alpha in the Fama-French three factor analyses, and/or where highly regarded at the time.
    International Value Advisors – the managers of this fund had developed a good track record at First Eagle before setting up their own fund company.
    Dodge and Cox – highlight regarded. Perhaps the most 'index-like' of all the actively managed portfolios
    ETF* – my personal returns (a portfolio with a 75:25 stock:bond portfolio, 50:37:13 US:EAFE:EM, with 0.2 and 0.4 factor load), very similar to the linked portfolio.
    Market – World market index.
Annualized returns from start of 2010 to date – almost 4 years
Few observation:

1. The ETF portfolio was structured to have a long-term expected 1.5% return above the market return (due to higher risk exposure). Interestingly this is the difference over this time period.

2. All actively managed portfolios did as well or better than the two passive portfolios. Taxes weren't considered. If they were perhaps the after-tax returns of the ETF portfolio would be higher than those of Dodge and Cox, and International Value Advisors.

3. The Fairholme fund has had highest volatility in 2011 declining 32.4% compared to around 4% to 8% for most of the others. This adds to the challenges of staying the course.

4. The multiple managers portfolio has performed fairly well, but not all funds. For example the Royce International fund significantly underperformed. The challenges with this portfolio is also taxes.

5. The most concentrated portfolio has performed the best over this period, however its likely a reflection of its US concentration (US stocks have done better than Intl. over this period). Nevertheless interesting performance. The challenge with this portfolio is also taxes - the greatest stock turnover was from Bill Ackman, much less so from Cummings, and the top two stock holding of Eddie Lampert has remained virtually unchanged over last 4 years.

Additional note: If we compare only the US side of the ETF portfolio 75:25 stock:bond with the Cummings-Ackman-Lampert and Fairholme portfolios which are essentially US focused funds. we get the following.

Cumming-Ackman-Lampert........14.7%
Fairholme....................................11.3%

ETF US side..................................14.6%

So it seems that if we ensure an apples-to-apples comparison, and account for taxes much of the perceived advantage of active management disappears.

This is a learning exercise. Will keep it going.

Robert
.
That is a very intriguing analysis Robert. I would be most interested in seeing what the apples-to-apples differences are in tax-sheltered accounts, as I believe that is the only practical way to have a chance at persistent outperformance with active funds.
"Do not put your faith in what statistics say until you have carefully considered what they do not say." | | -William W. Watt

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Re: Putting Active Management to the Test

Post by leonard » Tue Nov 05, 2013 4:55 pm

so, at least 24 managers are going to beat the market.

What criteria did you use to ensure that these 24 would beat the market. What unique attributes do these people possess. I am more impressed with the ability to predict people and their character - than the markets themselves.
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Re: Putting Active Management to the Test

Post by BackInTheBlack » Tue Nov 05, 2013 10:22 pm

leonard wrote:so, at least 24 managers are going to beat the market.

What criteria did you use to ensure that these 24 would beat the market. What unique attributes do these people possess. I am more impressed with the ability to predict people and their character - than the markets themselves.
I hope you didn't roll your eyes too far back in your head after that statement.

The point of this experiment is to (hopefully) show that a high degree of outperformance across many funds using a multi-tiered fund screen is not merely due to chance or luck. If that were the case, then, given the burden of costs and turnover from active strategies, I would likely score a 20% success rate. With an inordinate level of luck, I might be able to score a 40%. However, if I manage to outperform the benchmark(s) with 70% or more of the funds chosen, then I feel that that would be statistically significant and lend credence to the merits of certain active fund screening. The same thing applies for the portolio as a whole: if the stock and bond aggregates, representing fund-of-fund portfolios, outperform their relative benchmarks by at least 0.5%, then I feel that that is likewise significant. Given the sample size of 24 funds from one personal fund screen, I think the data will be meaningful one way or the other.
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Re: Putting Active Management to the Test

Post by Ranger » Tue Nov 05, 2013 10:41 pm

In my opinion, Identifying active managers who will beat the benchmark in x number of years is fools game. It is fund of funds approach. After accounting their layer of fees, there is no alpha.

It is much better to identify strategy which beats the benchmark and apply leverage.

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Re: Putting Active Management to the Test

Post by BackInTheBlack » Tue Nov 05, 2013 10:59 pm

Ranger wrote:In my opinion, Identifying active managers who will beat the benchmark in x number of years is fools game. It is fund of funds approach. After accounting their layer of fees, there is no alpha.

It is much better to identify strategy which beats the benchmark and apply leverage.
That's a reasonable point of view, and you very well may be right (although applying leverage to increased beta comes with a commensurate increase in risk). However, management is only one small part of the fund screen I employed, and is far from the main focus of the experiment. In a very abstract sense I am picking between managers, but in a more practical sense, I am choosing between the funds that they happen to run.

I guess I'm a fool then. So far, I've done very well as a fool over the last 5 years with PRWCX (T. Rowe Price Capital Appreciation) as my core fund. While that's not a very long time period, neither is my investing life up to this point, and the fund's overall history is remarkably consistent since 1986.
"Do not put your faith in what statistics say until you have carefully considered what they do not say." | | -William W. Watt

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Re: Putting Active Management to the Test

Post by Ranger » Wed Nov 06, 2013 6:09 am

BackInTheBlack wrote:
I guess I'm a fool then.
Nothing personal. Picking fund managers who will beat markets is not a strategy. One has a little control over that strategy once the money is committed. Manager style will drift or retire mid course or the fund asset will bloat, then your fund will no longer the same as when you went in. Perfect example was Fidelity Magellan. Jeff Vinnick Magellan was totally different than Peter Lynch Magellan.
BackInTheBlack wrote: So far, I've done very well as a fool over the last 5 years with PRWCX (T. Rowe Price Capital Appreciation) as my core fund.
There are certain active funds which has done over the history like windsor and PCRIX. But selecting bunch of managers and distributing money over all these funds, you are basically constructing closet index fund, albeit with the higher fees.

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Re: Putting Active Management to the Test

Post by carolinaman » Wed Nov 06, 2013 8:01 am

BackintheBlack,

I commend you for tackling this issue. It looks like it will be an interesting study. Now if i can only live long enough to see the results.

It would be good for someone who has access to the fund data to do a backtest for past 10 years. A set of criteria and threshholds could be used to select funds in major asset categories, including below avg ER, low turnover, only use no load funds, above avg performance for prior 5/10 years, mgr tenure, favorable risk/reward, and any other criteria that makes sense. This is the type of approach that capable active investors use to determine which funds to invest in. Compare the selected active funds against their benchmarks and comparable index funds to see which performs best. This doesnot seem to be a difficult effort for someone with access to the data and some experience doing these types of studies. If this would further prove their point, you would think the passive advocates would be all over it.

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Re: Putting Active Management to the Test

Post by IlliniDave » Wed Nov 06, 2013 8:32 am

BackInTheBlack wrote:
I guess I'm a fool then. So far, I've done very well as a fool over the last 5 years with PRWCX (T. Rowe Price Capital Appreciation) as my core fund. While that's not a very long time period, neither is my investing life up to this point, and the fund's overall history is remarkably consistent since 1986.
That looks like a pretty decent fund. In the time frame you mention (past 5 years) it doesn't trail VFIAX or VIGAX by very much at all. :D

Sorry, couldn't resist.

Edit: forgot to add, if you go back 10 years, though, different story, and the next 10 years is likely to be another story still (lesson learned the hard way).

Your test looks like an interesting endeavor, and I hope I'm still around in 10 years to see how your test works out. What may also be interesting is to take a subset of the active candidates and arrange them in a reasonable "portfolio" and maintain an analogous index portfolio (real funds) applying same AA and rebalancing methodology. I don't remember if Ferri, et. al., considered rebalancing in their study or not. Not suggesting you should change what you're doing, just thinking out loud. Wish I had more time to undertake such an experiment myself.
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Re: Putting Active Management to the Test

Post by staythecourse » Wed Nov 06, 2013 9:52 am

BackInTheBlack wrote:I'm having a hard time understanding your point, honestly. If the active fund outperforms, then it's already made up for the 1-2% drag you talk about, and is compensating not only for those extra costs, but is also contributing some (likely) alpha in the process. Why would I limit the acceptable outperformance to an arbitrary statistic like that? As I pointed out in the OP, even a seemingly small figure of 0.6% will result in a huge difference in ending portfolio value over significant periods of time. Now, if your point is that a period of 10 years is too short for anything less than 1% to be worth the manager risk, then that's a valid quibble. I would only say that opinions differ, because to me, outperformance is outperformance.
Maybe I am not explaining myself well. If one uses Morningstar total returns there are certain costs that are NOT used in its calculation of return. Loads are not included. Transaction costs are not included. Costs of turnover is not calculated. Now how much of the tax adjusted return compensates for some of these costs I do not know. Do you?

I am no expert, but have read in numerous books that there are additional "hidden" costs such as turnover that no one knows the effect. Mr. Bogle in his Little Book edition states 1% reduction in return for every 100% turnover. I believe he said that was being conservative as well. So that has to be factored in. Many active funds have higher turnover then that as well.

Some of those costs have to be included. The morningstar data does compensate for admin. charges, ER, and 12b-1 fees, but not all the other increased costs of active management.

Either way In "Common Sense: 10yr. anniversy edition" I believe at that point if one did not include the "other" costs then there were 11-12 funds that outperformed his SP500 index since inception out of 350 or so funds at the time he started the funds. So either way that is not good odds.

Good luck.
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Bogle vs. Markman Contest

Post by Taylor Larimore » Wed Nov 06, 2013 10:26 am

Bogleheads:

This Contest reminds me of another Contest in 1995 in which Bob Markman made a $25 bet with Jack Bogle that his Markman Fund would beat Jack's S&P 500 Index Fund over the next five years.

You can read about it here:

Letters between Bogle and Markman

Best wishes.
Taylor
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Re: Putting Active Management to the Test

Post by DueDiligence » Wed Nov 06, 2013 1:01 pm

BackInTheBlack wrote:
fishnskiguy wrote:B In The B,

Might I suggest you identify your benchmarks now? :idea: If you wait until the end of the test period, you might be accused of cherry picking your bogeys.

Chris
Absolutely, I'll post that some time today.
BackInTheBlack:
Morningstar categories for some of the funds and benchmarks do not agree.
This might be worth some discussion since IMO there is good probability that future results will be ambiguous with both active and passive proponents claiming proof of their approach.
Inappropriate benchmarks may be one issue, since it invariably arises in active-vs-passive comparisons.
Hope you take this as constructive comment, since I believe you are making a serious effort to explain your perspectives including your listing of funds.
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Re: Putting Active Management to the Test

Post by Akiva » Wed Nov 06, 2013 1:34 pm

Robert T wrote:.
I just checked in on some of the actively managed portfolio I set up in 2009 (Who is the fairest of them all). I gave some thought to each of them when they were set up (not randomly done) and added a couple more. Brief description on each – all portfolios have an average stock:bond ratio of about 75:25, and most are 50:50 US:non-US
  • Cumming-Ackman-Lampert – only contains 6 stocks, the top two stocks held by each of the highly concentrated hedge fund managers Cumming, Bill Ackman, and Eddie Lampert from the quarterly 13Fs. Stocks are changed in the portfolio as the stock composition of the 13Fs changes.
    Multiple managers – includes funds that showed some alpha in the Fama-French three factor analyses, and/or where highly regarded at the time.
    International Value Advisors – the managers of this fund had developed a good track record at First Eagle before setting up their own fund company.
    Dodge and Cox – highlight regarded. Perhaps the most 'index-like' of all the actively managed portfolios
    ETF* – my personal returns (a portfolio with a 75:25 stock:bond portfolio, 50:37:13 US:EAFE:EM, with 0.2 and 0.4 factor load), very similar to the linked portfolio.
    Market – World market index.
Annualized returns from start of 2010 to date – almost 4 years
Few observation:

1. The ETF portfolio was structured to have a long-term expected 1.5% return above the market return (due to higher risk exposure). Interestingly this is the difference over this time period.

2. All actively managed portfolios did as well or better than the two passive portfolios. Taxes weren't considered. If they were perhaps the after-tax returns of the ETF portfolio would be higher than those of Dodge and Cox, and International Value Advisors.

3. The Fairholme fund has had highest volatility in 2011 declining 32.4% compared to around 4% to 8% for most of the others. This adds to the challenges of staying the course.

4. The multiple managers portfolio has performed fairly well, but not all funds. For example the Royce International fund significantly underperformed. The challenges with this portfolio is also taxes.

5. The most concentrated portfolio has performed the best over this period, however its likely a reflection of its US concentration (US stocks have done better than Intl. over this period). Nevertheless interesting performance. The challenge with this portfolio is also taxes - the greatest stock turnover was from Bill Ackman, much less so from Cummings, and the top two stock holding of Eddie Lampert has remained virtually unchanged over last 4 years.

Additional note: If we compare only the US side of the ETF portfolio 75:25 stock:bond with the Cummings-Ackman-Lampert and Fairholme portfolios which are essentially US focused funds. we get the following.

Cumming-Ackman-Lampert........14.7%
Fairholme....................................11.3%

ETF US side..................................14.6%

So it seems that if we ensure an apples-to-apples comparison, and account for taxes much of the perceived advantage of active management disappears.

This is a learning exercise. Will keep it going.

Robert
.
Well, I think that you'd need to go in and look at their returns vs. known risk factors. (And that's more than just the FF 4-factor model. At a minimum, you'd need to include "quality" and "low volatility" which some active managers are heavily loaded on since they don't show up in standard regressions.) Then, assuming you did find that they had superior risk adjusted returns, you'd have to ask if this was some fluke or if this is reproducible. The easiest way to do it would be to identify the factors that you screened these funds on and do a regression with all the factors you considered against the excess returns of all mutual funds. (And then do some kind of robust decision test to see if any of those factors have weights statistically different from zero.)

I doubt this would be successful, but maybe you'll surprise us.

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Re: Bogle vs. Markman Contest

Post by MindBogler » Wed Nov 06, 2013 2:04 pm

Taylor Larimore wrote:Bogleheads:

This Contest reminds me of another Contest in 1995 in which Bob Markman made a $25 bet with Jack Bogle that his Markman Fund would beat Jack's S&P 500 Index Fund over the next five years.

You can read about it here:

Letters between Bogle and Markman

Best wishes.
Taylor
That was a good read Taylor, thanks. By chance, what was the outcome of the 2nd $5 bet? I know the direction but I'd like to know the magnitude as well. :)

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Re: Bogle vs. Markman Contest

Post by ScottW » Wed Nov 06, 2013 2:29 pm

MindBogler wrote:That was a good read Taylor, thanks. By chance, what was the outcome of the 2nd $5 bet? I know the direction but I'd like to know the magnitude as well. :)
I don't know if the two ever came to an agreement over the 2nd bet, but in 2010 Markman admitted to defrauding investors via a Ponzi scheme, and he committed suicide and left instructions asking that his life insurance policy be used to pay off his investors.

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Re: Putting Active Management to the Test

Post by MindBogler » Wed Nov 06, 2013 3:10 pm

Oh my.

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Re: Putting Active Management to the Test

Post by FinancialDave » Wed Nov 06, 2013 4:12 pm

Not having a proper strategy is the same problem faced by many investors - they just find a bunch of funds that by history prove they have good returns, then they throw 15 or 20 of them into an account.

I put all my money in 2 or 3 Vanguard equity index funds and this will outperform 15-20 active funds on most every occasion.

It is not enough to find funds that outperform their benchmark, you need some kind of strategy to go with it - that is if you goal is to capture the most the market has to offer.

As a point, why not add index funds to the category of funds that have outperformed their benchmark -- VTSMX has outperformed its benchmark by over 1% on average over the last 5 years.
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Reply to Bogler and Scott

Post by Taylor Larimore » Wed Nov 06, 2013 4:47 pm

MindBogler:
That was a good read Taylor, thanks. By chance, what was the outcome of the 2nd $5 bet? I know the direction but I'd like to know the magnitude as well. :)
Sorry, I don't know the outcome of the 2nd bet.

Scott:
I don't know if the two ever came to an agreement over the 2nd bet, but in 2010 Markman admitted to defrauding investors via a Ponzi scheme, and he committed suicide and left instructions asking that his life insurance policy be used to pay off his investors.
A sad ending. I suspect he was a person who was sure he could outperform and could not accept failure. We are all fallible.

Best wishes.
Taylor
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Re: Bogle vs. Markman Contest

Post by neurosphere » Wed Nov 06, 2013 5:16 pm

MindBogler wrote: That was a good read Taylor, thanks. By chance, what was the outcome of the 2nd $5 bet? I know the direction but I'd like to know the magnitude as well. :)
In subsequent posts, Markman said his aggressive fund was concentrated in tech. This was 2000. I think we know how tech funds performed in 2000 compared to the SP500.

Here's an article with a summary of his life, written after his suicide:

http://www.startribune.com/business/105556728.html
When the tech bubble burst in 2000, Markman Capital's tech-heavy mutual funds took a nosedive. During the bear market that followed, his assets under management dropped by three-quarters along with his million-dollar annual income. He cut staff and moved into a smaller office.
and
On March 9, 2009 -- the day the stock market hit bottom -- the Star Tribune published an opinion piece written by Markman urging readers to rethink portfolios invested mostly in equities. "What would be so terrible about missing the first few months of a new bull market?" he wrote.

Unfortunately, he took his own advice. Six months later, while the Standard and Poor's 500 was up about 60 percent, Markman's Core Growth Fund was down 10 percent.
What a very sad story.
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Re: Putting Active Management to the Test

Post by kenyan » Wed Nov 06, 2013 5:49 pm

From that thread:

The exchange between Markman and Bogle is one of the highlights of my day. However, I wouldn't buy any of the funds they discussed. I agree with Bogle that an actively managed, diversified fund is not likely to beat the S&P 500 in the long haul. A non-diversified fund, like Firsthand Technology Value, is a much better "core holding" in my view.

I agree with Markman that price volatility is not the same as risk. The Internet changes EVERYTHING, including the valuation of companies in non-technology businesses.


Ouch. Firsthand Technology Value TVFQX appears to have closed/merged into a new closed-end fund in 2011 after a 90% asset drawdown and 10-year returns of -6.6% Annualized versus +3.4% annualized for VTSMX over the same period I saw. "This time it's different" is almost always wrong.
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Re: Bogle vs. Markman Contest

Post by kenyan » Wed Nov 06, 2013 6:02 pm

neurosphere wrote:
What a very sad story.
Agreed. A tragic, sad story.

In regards to the OP, I didn't comb through his methodology or goals too closely, but I respect the attempt to actually try to put this down on paper. Anyone can - and far too many people do - pick funds based upon past returns, but at least there will be some attempt here to document a selection of funds for the future. Personally, even if the selections prove to be good over the next 10 years, it wouldn't change much for me. Selecting and watching closely over a number of actively managed funds for style drift, manager retirement, tax efficiency, etc. is not something I'd care to do, or believe that I could do reliably. Much easier to let the market do the thinking for me.
Retirement investing is a marathon.

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Re: Putting Active Management to the Test

Post by BackInTheBlack » Wed Nov 06, 2013 11:01 pm

IlliniDave wrote:
BackInTheBlack wrote:
I guess I'm a fool then. So far, I've done very well as a fool over the last 5 years with PRWCX (T. Rowe Price Capital Appreciation) as my core fund. While that's not a very long time period, neither is my investing life up to this point, and the fund's overall history is remarkably consistent since 1986.
That looks like a pretty decent fund. In the time frame you mention (past 5 years) it doesn't trail VFIAX or VIGAX by very much at all. :D

Sorry, couldn't resist.

Edit: forgot to add, if you go back 10 years, though, different story, and the next 10 years is likely to be another story still (lesson learned the hard way).

Your test looks like an interesting endeavor, and I hope I'm still around in 10 years to see how your test works out. What may also be interesting is to take a subset of the active candidates and arrange them in a reasonable "portfolio" and maintain an analogous index portfolio (real funds) applying same AA and rebalancing methodology. I don't remember if Ferri, et. al., considered rebalancing in their study or not. Not suggesting you should change what you're doing, just thinking out loud. Wish I had more time to undertake such an experiment myself.
Thanks Dave - I've wondered about the rebalancing phenomenon as well, and how that might factor into active vs. passive portfolio comparisons.

As for PRWCX, I just have to point out that all stock index funds are not appropriate for comparison, since the fund I'm talking about is only 60% stock, with the rest in bonds and cash. In fact, the best single fund comparison would probably be VBINX, considering the nearly identical asset allocation. PRWCX has beaten the pants off that fund since inception (including most rolling periods except for the late '90's through 2000, where the tech bubble inflated the S&P 500, and thus VBINX along with it).
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Re: Putting Active Management to the Test

Post by BackInTheBlack » Wed Nov 06, 2013 11:19 pm

FinancialDave wrote:Not having a proper strategy is the same problem faced by many investors - they just find a bunch of funds that by history prove they have good returns, then they throw 15 or 20 of them into an account.

I put all my money in 2 or 3 Vanguard equity index funds and this will outperform 15-20 active funds on most every occasion.

It is not enough to find funds that outperform their benchmark, you need some kind of strategy to go with it - that is if you goal is to capture the most the market has to offer.

As a point, why not add index funds to the category of funds that have outperformed their benchmark -- VTSMX has outperformed its benchmark by over 1% on average over the last 5 years.
Agreed. Fortunately for me, I've learned that past performance while not predictive, may still be instructive. If a fund has outperformed its benchmark for three decades running with a high degree of consistency, under the direction of various different managers, then that's compelling and worth a hard look. If I delve deeper, however, and see that AUM were $10 billion 10 years ago, but $50 billion today after such screaming success, then that's a giant mark against it in my book. If I see that portfolio turnover exceeds 50 or 100%, then that's a red flag, and not just for tax purposes, but also for investor behavior. If the expense ratio is above average, then that's essentially a non-starter, ditto for loads and 12b-1 fees. If the fund manages to beat its benchmark simply by taking on extra risk, essentially producing no real alpha, then that doesn't sit well either. I also don't even consider funds from fund families that have a history of regulatory problems, such as Wells Fargo Advisers (formerly Evergreen). I like to see funds with past success that also have longer average manager tenure over the life of the fund. There are many factors to consider, and past performance is just the window dressing that invites the shopper into the store.

I adhere to a core and explore approach. So earlier, I misspoke when I said that PRWCX was a "core" holding, because in fact it is really a satellite holding. The bulk of my money is invested in index funds, but I do employ a few active funds for some niche areas.
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Re: Putting Active Management to the Test

Post by BackInTheBlack » Wed Nov 06, 2013 11:27 pm

DueDiligence wrote:
BackInTheBlack wrote:
fishnskiguy wrote:B In The B,

Might I suggest you identify your benchmarks now? :idea: If you wait until the end of the test period, you might be accused of cherry picking your bogeys.

Chris
Absolutely, I'll post that some time today.
BackInTheBlack:
Morningstar categories for some of the funds and benchmarks do not agree.
This might be worth some discussion since IMO there is good probability that future results will be ambiguous with both active and passive proponents claiming proof of their approach.
Inappropriate benchmarks may be one issue, since it invariably arises in active-vs-passive comparisons.
Hope you take this as constructive comment, since I believe you are making a serious effort to explain your perspectives including your listing of funds.
I was very thorough in assigning the best investable benchmarks (index funds/ETF's) I could find, but I agree that it's not a perfect fit for some of the funds. The biggest problem I had was that some of the large cap funds were either large value or large growth, and the only large cap index fund that seemed appropriate was the large blend Vanguard Lagre Cap Index (VLCAX). Since some of the funds were growth, some value, and most go back and forth from time to time, I figured the difference at the end of the 10 year period would be extremely negligible. If you have some more specific problems that you've found, though, please point them out and I'll change anything that might need to be changed, where appropriate.

That goes for anybody on here: if you feel that any of these funds are paired with an inappropriate benchmark in the OP, please let me know and I'll do what I can to remedy the situation, if necessary.
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Re: Putting Active Management to the Test

Post by BackInTheBlack » Wed Nov 06, 2013 11:50 pm

staythecourse wrote:
BackInTheBlack wrote:I'm having a hard time understanding your point, honestly. If the active fund outperforms, then it's already made up for the 1-2% drag you talk about, and is compensating not only for those extra costs, but is also contributing some (likely) alpha in the process. Why would I limit the acceptable outperformance to an arbitrary statistic like that? As I pointed out in the OP, even a seemingly small figure of 0.6% will result in a huge difference in ending portfolio value over significant periods of time. Now, if your point is that a period of 10 years is too short for anything less than 1% to be worth the manager risk, then that's a valid quibble. I would only say that opinions differ, because to me, outperformance is outperformance.
Maybe I am not explaining myself well. If one uses Morningstar total returns there are certain costs that are NOT used in its calculation of return. Loads are not included. Transaction costs are not included. Costs of turnover is not calculated. Now how much of the tax adjusted return compensates for some of these costs I do not know. Do you?

I am no expert, but have read in numerous books that there are additional "hidden" costs such as turnover that no one knows the effect. Mr. Bogle in his Little Book edition states 1% reduction in return for every 100% turnover. I believe he said that was being conservative as well. So that has to be factored in. Many active funds have higher turnover then that as well.

Some of those costs have to be included. The morningstar data does compensate for admin. charges, ER, and 12b-1 fees, but not all the other increased costs of active management.

Either way In "Common Sense: 10yr. anniversy edition" I believe at that point if one did not include the "other" costs then there were 11-12 funds that outperformed his SP500 index since inception out of 350 or so funds at the time he started the funds. So either way that is not good odds.

Good luck.
You're right about the tax issue, and I should have made it more clear in the OP that I only advocate for active fund selection in tax-sheltered accounts, because you're very correct in noting that any potential benefit is whittled away in a taxable account, generally speaking. While that's not true for all funds that outperform, I feel the hurdle is already high enough without the additional drag of tax from portfolio turnover/yield. As for addressing the question about tax-adjusted return, I will say that M* has a tab on taxes, which shows pre- and post-tax return, and where the fund ranks in its category. Just as importantly, that table also shows how much potential capital gains exposure the fund in question currently holds for investors. Also, I don't choose load funds, and none of the above from my screen have loads, 12b-1 fees, or anything like that.

I'm not sure what you mean about transaction and turnover costs not being included in M* total return methodology, because that is certainly not the case concerning the mutual fund portfolios themselves, not from what I've read. Again, if you're referring to the tax drag of portfolio turnover, then the "tax" tab can show you the taxable investor returns. As for transaction costs, are you talking about loads, or brokerage commissions, etc.? I don't see that those would be necessary to include since all of the funds I look at, and the ones I've provided above, can be purchased load and commission free.

One of the main points I think I have to stress is that active funds are pretty poor taxable investments, generally speaking, and I'm only really interested in their pre-tax returns, since IRA's, 401(k)'s, 403(b)'s, etc. provide ample opportunities for investors to employ such strategies without the undue burden of tax cost.
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Re: Putting Active Management to the Test

Post by BackInTheBlack » Thu Nov 07, 2013 12:09 am

johnep wrote:BackintheBlack,

I commend you for tackling this issue. It looks like it will be an interesting study. Now if i can only live long enough to see the results.

It would be good for someone who has access to the fund data to do a backtest for past 10 years. A set of criteria and threshholds could be used to select funds in major asset categories, including below avg ER, low turnover, only use no load funds, above avg performance for prior 5/10 years, mgr tenure, favorable risk/reward, and any other criteria that makes sense. This is the type of approach that capable active investors use to determine which funds to invest in. Compare the selected active funds against their benchmarks and comparable index funds to see which performs best. This doesnot seem to be a difficult effort for someone with access to the data and some experience doing these types of studies. If this would further prove their point, you would think the passive advocates would be all over it.
Absolutely John! I don't have the necessary access, such as to the CRSP database, etc. yet that I would need, but when I do I plan on doing something very similar to what you suggest in the not-too-distant future. I agree that such backtesting needs to be done, if for no other reason then to help prove even further that vigilant fund screening really has no merit whatsoever, if that is really the case. If that is the case then fine, but let's put it to the proper test, rather than one-dimensional comparisons of broad averages in the fund universe, or weakly-constructed screens that are far too generous to the funds with real problems.
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Re: Putting Active Management to the Test

Post by BackInTheBlack » Thu Nov 07, 2013 12:22 am

livesoft wrote:Heading into 2000, I owned 5 of the funds listed in the OP. I do not own any of them now.
Which ones, out of curiosity?
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Re: Putting Active Management to the Test

Post by IlliniDave » Thu Nov 07, 2013 5:51 am

BackInTheBlack wrote: As for PRWCX, I just have to point out that all stock index funds are not appropriate for comparison, since the fund I'm talking about is only 60% stock, with the rest in bonds and cash. In fact, the best single fund comparison would probably be VBINX, considering the nearly identical asset allocation. PRWCX has beaten the pants off that fund since inception (including most rolling periods except for the late '90's through 2000, where the tech bubble inflated the S&P 500, and thus VBINX along with it).
Ah, okay, I was looking at the wrong TRP fund apparently. I don't pay any attention to blend funds. Except for Wellington, they make me nervous. :)

Good luck with the experiment.
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Re: Putting Active Management to the Test

Post by livesoft » Thu Nov 07, 2013 6:29 am

BackInTheBlack wrote:
livesoft wrote:Heading into 2000, I owned 5 of the funds listed in the OP. I do not own any of them now.
Which ones, out of curiosity?
DODFX - this is NOT an EFA proxy. It did better than int'l funds of its day because it always had a significant chunk of emerging markets that the others did not.
VPMAX PRIMECAP - was not tax efficient. I noted dumping it in this post: http://www.bogleheads.org/forum/viewtop ... 39#p606939
VWNAX - Windsor II, I described getting rid of it in this thread: http://www.bogleheads.org/forum/viewtopic.php?t=48435
DODBX - used this balanced fund for years directly held at D&C,
OAKBX - used this balanced fund for years directly held at Oakmark

The balanced funds were not good for my enlightened tax-efficient asset locations. The drop in 2000 allowed me to get out without paying taxes.
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Re: Putting Active Management to the Test

Post by staythecourse » Thu Nov 07, 2013 8:42 am

BackInTheBlack wrote:I'm not sure what you mean about transaction and turnover costs not being included in M* total return methodology, because that is certainly not the case concerning the mutual fund portfolios themselves, not from what I've read. Again, if you're referring to the tax drag of portfolio turnover, then the "tax" tab can show you the taxable investor returns. As for transaction costs, are you talking about loads, or brokerage commissions, etc.? I don't see that those would be necessary to include since all of the funds I look at, and the ones I've provided above, can be purchased load and commission free.
I do not believe the morningstar data has the cost of turnover. They do state the turnover, but not the actual costs. Every writer talks about this being unknown re: the tax drag on the turnover not being reported as it is not required by SEC. So not sure if that is accounted for. Anybody know?

If you do not include load funds and make assumption of trading free then I am good with that.

Good luck.
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BackInTheBlack
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Re: Putting Active Management to the Test

Post by BackInTheBlack » Thu Nov 07, 2013 6:33 pm

livesoft wrote:
BackInTheBlack wrote:
livesoft wrote:Heading into 2000, I owned 5 of the funds listed in the OP. I do not own any of them now.
Which ones, out of curiosity?
DODFX - this is NOT an EFA proxy. It did better than int'l funds of its day because it always had a significant chunk of emerging markets that the others did not.
VPMAX PRIMECAP - was not tax efficient. I noted dumping it in this post: http://www.bogleheads.org/forum/viewtop ... 39#p606939
VWNAX - Windsor II, I described getting rid of it in this thread: http://www.bogleheads.org/forum/viewtopic.php?t=48435
DODBX - used this balanced fund for years directly held at D&C,
OAKBX - used this balanced fund for years directly held at Oakmark

The balanced funds were not good for my enlightened tax-efficient asset locations. The drop in 2000 allowed me to get out without paying taxes.
Good points about tax efficiency, I only employ active funds in my tax-deferred/exempt accounts due to this very issue.

Thanks for the heads-up about DODFX, I'll take a second look and make the appropriate changes the the benchmark in the OP.
"Do not put your faith in what statistics say until you have carefully considered what they do not say." | | -William W. Watt

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BackInTheBlack
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Re: Putting Active Management to the Test

Post by BackInTheBlack » Thu Nov 07, 2013 6:37 pm

staythecourse wrote:
BackInTheBlack wrote:I'm not sure what you mean about transaction and turnover costs not being included in M* total return methodology, because that is certainly not the case concerning the mutual fund portfolios themselves, not from what I've read. Again, if you're referring to the tax drag of portfolio turnover, then the "tax" tab can show you the taxable investor returns. As for transaction costs, are you talking about loads, or brokerage commissions, etc.? I don't see that those would be necessary to include since all of the funds I look at, and the ones I've provided above, can be purchased load and commission free.
I do not believe the morningstar data has the cost of turnover. They do state the turnover, but not the actual costs. Every writer talks about this being unknown re: the tax drag on the turnover not being reported as it is not required by SEC. So not sure if that is accounted for. Anybody know?

If you do not include load funds and make assumption of trading free then I am good with that.

Good luck.
Okay, that is interesting. The explanations of their return and expense methodology are a little opaque on that particular topic.
"Do not put your faith in what statistics say until you have carefully considered what they do not say." | | -William W. Watt

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Re: Putting Active Management to the Test

Post by carolinaman » Fri Nov 08, 2013 6:49 am

BackInTheBlack wrote:
staythecourse wrote:
BackInTheBlack wrote:I'm not sure what you mean about transaction and turnover costs not being included in M* total return methodology, because that is certainly not the case concerning the mutual fund portfolios themselves, not from what I've read. Again, if you're referring to the tax drag of portfolio turnover, then the "tax" tab can show you the taxable investor returns. As for transaction costs, are you talking about loads, or brokerage commissions, etc.? I don't see that those would be necessary to include since all of the funds I look at, and the ones I've provided above, can be purchased load and commission free.
I do not believe the morningstar data has the cost of turnover. They do state the turnover, but not the actual costs. Every writer talks about this being unknown re: the tax drag on the turnover not being reported as it is not required by SEC. So not sure if that is accounted for. Anybody know?

If you do not include load funds and make assumption of trading free then I am good with that.

Good luck.
Okay, that is interesting. The explanations of their return and expense methodology are a little opaque on that particular topic.
The assertion that M* did include turnover costs got my attention because I rely on their total return data in my analysis of funds. So I asked M* about it and they gave me this link which states that turnover costs are included in their total return data.
http://news.morningstar.com/articlenet/ ... 8&_QSBPA=Y


The question to M* in article:
"Dear Analyst,
Does the term "total return" mean the total return that the mutual fund company earns before expenses are considered, or does it mean the return earned by the investor after all fund expenses are calculated? Similarly, when Morningstar shows how a fund ranks in comparison with the category average, is this before or after expenses? "
A few excerpts from the article response:
"..........a fund's total returns are calculated after all expenses are considered."
"When we rank funds' returns, do we rank them before or after expenses are taken into account? We rank funds' trailing results based on their total returns, and therefore, we rank them after expenses."
"A fund's total return number does not include any sales fees that investors pay on the back end or the front end."

I hope this helps.

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Re: Putting Active Management to the Test

Post by BackInTheBlack » Fri Nov 08, 2013 5:40 pm

johnep wrote:
BackInTheBlack wrote:
staythecourse wrote:
BackInTheBlack wrote:I'm not sure what you mean about transaction and turnover costs not being included in M* total return methodology, because that is certainly not the case concerning the mutual fund portfolios themselves, not from what I've read. Again, if you're referring to the tax drag of portfolio turnover, then the "tax" tab can show you the taxable investor returns. As for transaction costs, are you talking about loads, or brokerage commissions, etc.? I don't see that those would be necessary to include since all of the funds I look at, and the ones I've provided above, can be purchased load and commission free.
I do not believe the morningstar data has the cost of turnover. They do state the turnover, but not the actual costs. Every writer talks about this being unknown re: the tax drag on the turnover not being reported as it is not required by SEC. So not sure if that is accounted for. Anybody know?

If you do not include load funds and make assumption of trading free then I am good with that.

Good luck.
Okay, that is interesting. The explanations of their return and expense methodology are a little opaque on that particular topic.
The assertion that M* did include turnover costs got my attention because I rely on their total return data in my analysis of funds. So I asked M* about it and they gave me this link which states that turnover costs are included in their total return data.
http://news.morningstar.com/articlenet/ ... 8&_QSBPA=Y


The question to M* in article:
"Dear Analyst,
Does the term "total return" mean the total return that the mutual fund company earns before expenses are considered, or does it mean the return earned by the investor after all fund expenses are calculated? Similarly, when Morningstar shows how a fund ranks in comparison with the category average, is this before or after expenses? "
A few excerpts from the article response:
"..........a fund's total returns are calculated after all expenses are considered."
"When we rank funds' returns, do we rank them before or after expenses are taken into account? We rank funds' trailing results based on their total returns, and therefore, we rank them after expenses."
"A fund's total return number does not include any sales fees that investors pay on the back end or the front end."

I hope this helps.
Okay, this is what I suspected and had been assuming was the case for years, since I had never seen any evidence to the contrary. Thanks for putting this canard to rest, John.
"Do not put your faith in what statistics say until you have carefully considered what they do not say." | | -William W. Watt

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Re: Putting Active Management to the Test

Post by BackInTheBlack » Fri Nov 08, 2013 6:05 pm

livesoft wrote:
BackInTheBlack wrote:
livesoft wrote:Heading into 2000, I owned 5 of the funds listed in the OP. I do not own any of them now.
Which ones, out of curiosity?
DODFX - this is NOT an EFA proxy. It did better than int'l funds of its day because it always had a significant chunk of emerging markets that the others did not.
VPMAX PRIMECAP - was not tax efficient. I noted dumping it in this post: http://www.bogleheads.org/forum/viewtop ... 39#p606939
VWNAX - Windsor II, I described getting rid of it in this thread: http://www.bogleheads.org/forum/viewtopic.php?t=48435
DODBX - used this balanced fund for years directly held at D&C,
OAKBX - used this balanced fund for years directly held at Oakmark

The balanced funds were not good for my enlightened tax-efficient asset locations. The drop in 2000 allowed me to get out without paying taxes.
Okay, I changed the benchmark for DODFX to ACWX, the iShares MSCI ACWI ex US Index.

I read the threads you linked, so you're saying that you ditched those funds for asset allocation simplicity and in the case of Primecap, tax efficiency in your taxable account. Your first post in this thread seemed to infer you owned 5 of these funds before you "got wise," but that's not what you're saying, not based on the threads you linked, and certainly not based on the subsequent performance of these funds which have done extremely well (or they wouldn't even be on this list to begin with).

I will say that you did a remarkable job picking active funds, and that only seems to strengthen the case that intelligent fund screening does actually exist. If it were truly a "fool's errand," i.e. much, much less than a 50% chance, then the probability of hitting on 5 straight active winners would be infinitesimally small. In fact, assuming it is a 20% probability per fund, then it is a 0.032% overall chance for 5 in a row to be "winners."
"Do not put your faith in what statistics say until you have carefully considered what they do not say." | | -William W. Watt

staythecourse
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Re: Putting Active Management to the Test

Post by staythecourse » Fri Nov 08, 2013 9:46 pm

johnep wrote:
BackInTheBlack wrote:
staythecourse wrote:
BackInTheBlack wrote:I'm not sure what you mean about transaction and turnover costs not being included in M* total return methodology, because that is certainly not the case concerning the mutual fund portfolios themselves, not from what I've read. Again, if you're referring to the tax drag of portfolio turnover, then the "tax" tab can show you the taxable investor returns. As for transaction costs, are you talking about loads, or brokerage commissions, etc.? I don't see that those would be necessary to include since all of the funds I look at, and the ones I've provided above, can be purchased load and commission free.
I do not believe the morningstar data has the cost of turnover. They do state the turnover, but not the actual costs. Every writer talks about this being unknown re: the tax drag on the turnover not being reported as it is not required by SEC. So not sure if that is accounted for. Anybody know?

If you do not include load funds and make assumption of trading free then I am good with that.

Good luck.
Okay, that is interesting. The explanations of their return and expense methodology are a little opaque on that particular topic.
The assertion that M* did include turnover costs got my attention because I rely on their total return data in my analysis of funds. So I asked M* about it and they gave me this link which states that turnover costs are included in their total return data.
http://news.morningstar.com/articlenet/ ... 8&_QSBPA=Y


The question to M* in article:
"Dear Analyst,
Does the term "total return" mean the total return that the mutual fund company earns before expenses are considered, or does it mean the return earned by the investor after all fund expenses are calculated? Similarly, when Morningstar shows how a fund ranks in comparison with the category average, is this before or after expenses? "
A few excerpts from the article response:
"..........a fund's total returns are calculated after all expenses are considered."
"When we rank funds' returns, do we rank them before or after expenses are taken into account? We rank funds' trailing results based on their total returns, and therefore, we rank them after expenses."
"A fund's total return number does not include any sales fees that investors pay on the back end or the front end."

I hope this helps.
Wait am I the only one confused?

Your link does not say ANYTHING about turnover being included. At the beginning it says total return is after ALL expenses are removed, but later on in the article it explicitly says the sales fees (?loads) are not removed. So if they don't remove loads which is easy to calculate and remove how would you assume they remove turnover costs which NO ONE I have read has a quantifiable equation to determine the impact of turnover?

Even in their example they just removed the ER of the fund and got the total return. So that means the ONLY expenses of that example was ER? No loads, 12b-1 fees, turnover, transaction costs, etc...? So if there example is correct the ONLY fees that the fund in question had was ER? That does not pass the sniff test of common sense. Does it??

I think this would indicate that they do NOT include turnover as an expense especially since they do not remove loads.

BTW, I tried to examine the fund more in depth but this active fund did not make it as it is already closed down. :D

Good luck.
"The stock market [fluctuation], therefore, is noise. A giant distraction from the business of investing.” | -Jack Bogle

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Re: Putting Active Management to the Test

Post by IlliniDave » Sat Nov 09, 2013 6:01 am

staythecourse wrote:
Wait am I the only one confused?

Your link does not say ANYTHING about turnover being included. At the beginning it says total return is after ALL expenses are removed, but later on in the article it explicitly says the sales fees (?loads) are not removed. So if they don't remove loads which is easy to calculate and remove how would you assume they remove turnover costs which NO ONE I have read has a quantifiable equation to determine the impact of turnover?

Even in their example they just removed the ER of the fund and got the total return. So that means the ONLY expenses of that example was ER? No loads, 12b-1 fees, turnover, transaction costs, etc...? So if there example is correct the ONLY fees that the fund in question had was ER? That does not pass the sniff test of common sense. Does it??

I think this would indicate that they do NOT include turnover as an expense especially since they do not remove loads.

BTW, I tried to examine the fund more in depth but this active fund did not make it as it is already closed down. :D

Good luck.
Now maybe I'm confused. I thought the "turnover" cost was implicitly reflected in the total return (tax implications aside). I thought it was "hidden" in the sense that it's difficult to separate out of the fund's gross performance (before fees) since the fund companies don't report it. The cynical part of me always took it as a way Wall Street players enrich themselves through needless churning of our money (in this case through brokerage commissions and associated kickbacks), but that whatever the cost is, it's reflected in the total return.
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