if the mutual funds investors are losing 4 points, who is getting that 4 points?
This is a question that has long puzzled me and I am still trying to figure out an answer. This is a set of working hypotheses. I don't know how to test any of them.
a) The public DOES systematically underperform the market, by quite a lot. The various pieces of evidence on "investor returns" are just too overwhelming.
b) You can NOT market time successfully by monitoring what the "public" does and doing the opposite. Some "second law of financial dynamics" prevents this from working.
c) It is pretty clear that the more "speculative" the asset is--the greater the potential for a big win--the worse the underperformance is.
d) Outright Ponzi schemes and pyramids are illegal, but everyone knows that legitimate business and investments can and do have an element
of Ponzi in them. Everything is always better when a business is growing and attracting new investment capital, and during that growth, every dollar you take out
of the business is a mixture
of business earnings and new investors' money coming in.
e) A Ponzi scheme, pyramid club, or chain letter transfers wealth from people who get in late and get caught in the collapse to people who get in early and get out before the collapse.
f) In the world of legitimate investments, there is a regular pattern of things that are not big enough to be called bubbles, but, perhaps, are more like fads and fashions. They have the same kind of social dynamics or market psychology as fads or fashions or "hits." They last six months to a couple of years. While they are going on, excitement builds, and the news of people making money in the investment spreads via press and word of mouth, until "everyone" is talking about the new opportunity.
g) Just as in the Ponzi scheme, each of these fads transfers money from those who get in late to those who get in early, and that is the answer to your question.
h) Having said that, how can one get in early? Well, I don't think that's a good idea, either. By the time somebody is telling you to "get in on the ground floor" it is nowhere near the ground floor.
i) "The best way to predict the future is to invent it"--Alan Kay. The best way to get in early is to be one of the financiers who actually creates
and offers the new investment opportunity. The next best way is to actually have inside information. This could be illegal inside information--and you get away with it. Or, it could just as well be perfectly legal but unfair
asymmetrical information. Or some other form of unfairly privileged position, as in IPOs.
j) The way to literally
get conned is to believe that you, who was an outsider a year ago, has just been offered membership in the elite inner circle by your influential new friend. That doesn't happen with garden-variety mutual funds and ETFs, though.
k) The fantasy is that even though you were not present at the creation of the innovative new kind of mutual fund or ETF, you have the keen insight that enables you to spot the winners before the general public does. That is, you can get in early, honestly, and without any kind of unfair advantage. I don't think this is actually impossible
--I am prepared to believe that Michael Burry may have actually done this with subprime mortgages, for example (in his case spotting the LACK of value and betting on collapses). But it is very unlikely. One problem is that for this to work, you must be prepared to invest in something at a time when almost nobody else has heard of it AND the people who have heard of it mostly think it is a bad idea. This might
be possible, but I don't do it myself and I don't recommend it. Just as I think it is possible
to win playing poker, but I am not the kind of person who can do it.
l) In general, money is transferred from those who get in late to those who get in early. However---
this is a big deal
SOME money is transferred from those who get in late to those who get in at the middle
And that is what Bogleheads do. By staying the course, on the average, we can and do succeed in "getting in at the middle."
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.