Investing: Marathon or Sprint?

2015 was full of hope and optimism for a triumphant performance for the share market in the new year. Alas, it was nothing but disaster.

Fear disaster not. The benefits of active management is usually most evident in more challenging markets, according to Mercer. We’re told the last 12 months have provided plenty of evidence that this remains the case. That’s a relief.

Here are the top five performing Australian share funds for the 2016FY:

FundsMercer

Source: Mercer

These are some serious one year returns. Any investor would be pretty happy with these. So why wouldn’t investors direct their investments into these funds? Chase the guys and gals that are returning the big numbers. Simple right?

There are always funds that shoot the lights out. This is fact. What we don’t know however, if it’s because they’re actually super skilled or just plain lucky. I don’t think anyone can say they’re aren’t any skillful investment managers out there. There certainly are.

The difficulty is identifying these managers in advance in order to participate in these returns. Why does this matter? Simply because these returns are not only inconsistent, they don’t last forever.

To show you what I mean, and to put things into perspective, I plotted the performance of these funds over a slightly longer time frame (5 years). I mean, who looks at things over a 12 month period? (this question is rhetorical)

Mercer5YRSource: Thompson Reuters Eikon

Most funds had been broadly tracking each other up until about 2015, when the Macquarie Alpha Opportunities Fund’s performance skyrocketed. Clearly a stellar performance. Even over the last five years, most of these funds have performed very well in absolute terms.

It’s important to also look at relative performance. What if you simply invested in a high yield index over this same time frame? To put the performance of the top performing funds into perspective, I’ve plotted the performance of one of the most widely used Exchange Traded Funds (ETF)  – Vanguard’s Australian Shares High Yield Index ETF, which costs a mere 0.25% pa (compared to 0.95% pa plus a 15% performance fee for the Bennelong High Conviction Fund). What this means is that in order to ‘outperform’, investors in funds that charge a lot more, must first pay their way before participating in any market return.

Okay, so here’s the chart with Vanguard’s ETF in orange:

Mercer5YRVHYSource: Thompson Reuters Eikon

Now this makes things interesting. Over the last five years, which is a common start date for all but one fund (Martin Currie), all but one of the top performing funds have under performed a simple benchmark. Yet the costs to invest in these funds are almost four times the cost of a simple benchmark, plus a performance fee.

In absolute terms, the returns of these funds are a fantastic result. In relative terms, they’re nothing to get too excited about.

Don’t get me wrong, there are and will continue to be funds that perform better than others, and better than an index during different periods of time. And for this reason, I don’t believe index funds will completely overtake active funds. This is because chasing the next wildly performing fund is tempting and enticing.

It’s just unfortunate that the odds of financial success are stacked up against you. I’m not here to introduce theories to you. I’m here explaining fact.

The first table below, provided by SPIVA (S&P Index Versus Active), shows us the performance of the average fund and compares this to the relevant benchmark:

Peers

For property, bonds, and international shares, actively managed funds just don’t cut it. Each failing to outperform their respective indexes over the last 5 years. The average Australian share fund however, is the one asset class that has been able to outperform over the last 5 year (to December 2015). Having said this, only by 0.18% pa.

Remember this is only an average. Investors are highly unlikely to be investing in all available funds. Investors are more likely to invest in a basket of actively managed funds in an attempt to ‘beat the market’.

According the the latest SPIVA data below, most funds, 2 out of every 3 funds failed to beat the ASX 200. This is the challenge for investors. That is, giving it their best shot in finding the 1 in every 3 actively managed fund that outperforms the ASX 200…in advance.

The chart below shows us the percentage of funds who have underperformed the comparison index:

SPIVA

Source: S&P Dow Jones Indices LLC, Morningstar. Data as of Dec. 31, 2015. Table is provided for illustrative purposes. Past performance is no guarantee of future results.

The basic premise that is that there will always be big winners. There will also be big losers. Investing is a zero sum game. For every winner there is a loser. The research indicates that it’s difficult to be on the winning side of each transaction consistently and for long periods of time. Therefore, before you start gambling away your hard earned wealth. Take a look at the facts.

We all know investing is a marathon that requires patience and discipline. The chart below is what real long-term investing is about. It’s the performance of the ASX top 50 stocks since 1986.

MAXSource: Thompson Reuters Eikon

Unfortunately it’s difficult to think about investing over 30 years. Simple. Boring. 440.95% return. Sadly, for most other actively managed funds, they just don’t last the journey.

Investing is a marathon, not a sprint.