Investment Managers: Randomly Walking the Plank?

In the February 2005 issue of The Financial Review, Burton Malkiel offers “Reflections on the Efficient Market Hypothesis: 30 Years Later” as a pudding-based proof of his famous proposition. He pits the performance of professional investment managers against that of market indices and finds that:

• In 2003, the S&P 500 index outperformed about three quarters of mutual funds holding large capitalization stocks. When returns are measured over periods of 10 or more years or longer, the index outperforms over 80% of active fund managers. Management and trading fees roughly account for average fund underperformance.
• Of 355 general equity funds available in 1970, 139 survived to 2004. Even with this survivorship bias, more than half clearly underperformed the market over the entire period
• The best funds of the 1960s underperformed the market in the 1970s. The best of the 1970s underperformed in the 1980s. The best of the 1980s underperformed in the 1990s. Top performers for 1996-1999 were among the worst performers for 2000-2003.
• Funds with Morningstar ratings of four or five stars underperformed the Wilshire 5000 index during 1991-2003.
• Over the 10 years ending 12/31/02, the MSCI Europe stock index outperformed 80% of actively managed European funds. Results for active global fund managers versus a global market index are similar.

Citing supporting statements from Benjamin Graham and Warren Buffett, Malkiel concludes that investing in actively managed funds is a loser’s game. Professional fund managers cannot systematically find and exploit market inefficiencies.

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