Great efficient market analogy, but I'm not following your assertion that the efforts of the money managers make indexing a valid strategy.

I  believe their relative performace to the overall market speaks to the benefits of indexing, but I don't understand how their analyzing of securities strengthens the strategy of indexing.  Isn't indexing all about not wasting time and money collecting, gathering, analyzing, etc.?  

This is why some "global allocation" funds do very well over time.  They can go anywhere in the world, in any asset class, to find the best assets to buy.  They're not trying to beat an index, they're not trying to outperform anything.  No "relative return" benchmarks.  They are just trying for positive total return, all the time.  This is why I like funds like Blackrock Global, Ivy Asset, First Eagle Global, Capital Income Builder.  Other than 2008, where everything lost money, these funds post superior long-term positive returns.  You can't really benchmark them against anything, as their holdings constantly change.

I also find that DEEP value managers (think Mutual series - Mutual Discovery and Mutual Shares) tend to perform very well over the long term.  It's tough to lose big when you're searching for deep value - even during growth cycles.  This is one of the things I dislike about indexes - some indexes can't replicate all investement styles real well.  But if you are a pure "style box" asset allocator, I think indexing is mostly the way to go (other than maybe sm. cap, emerging mkts, and international FI).

[quote=iceco1d]

Indexing is about not spending (wasting) money on something you get no additional value from.  Whether that means paying a “fund manager” 1% or the resulting transaction costs in fund turnover (not that there isn’t some turnover in index funds, but way less than most actively managed funds).

Indexing assumes that securities of certain types have similar performance characteristics and volatility.  Indexing also assumes that those securities will be fairly priced, due to the actions of market participants.  Maybe they won't be priced fairly 100% of the time, and maybe they won't be perfectly priced...but they will priced very closely to perfect, an overwhelming majority of the time, leaving so little to be gained from active management, that it isn't worth the cost.    In other words, perhaps an active manager, over 20 years, could exploit an average of 3 bps extra annual gain from his services...well, unless he can perform his services, and implement them, net of transaction costs, for less than 3 bps, he is actually taking value away from the portfolio, not adding it (and most managers charge way more than 3 bps..not even counting transaction costs).    Here's what I mean by active managers enabling indexing as a strategy...If nobody is actually ANALYZING securities, how would we ever get to a "fair" or "equlibrium" price?  We wouldn't.     Buyers & sellers determine prices.  We need a fairly large amount of buyers & sellers, each armed with a fairly large, highly accurate, pools of information, in order to achieve "fair pricing" of securities.  Market participants would use this information to bid prices to their correct value.    So, here you have millions of people looking at a security..say shares of Walmart.  Then you have thousands and thousands of people expressing their informed opinion on how much a share of Walmart would be worth, by offering to buy or sell at a particular price.    How do these people figure out how much they would be willing to pay/receive for a share?  They use available information.    Would you buy Walmart for $500/share?  No.  Why not?  The available information doesn't support that share price.   So, how can you "beat the market?"  How can you exploit buying stock in companies like Walmart, or GM, or Citi?  Well, you have to realize that shares are significantly underpriced.  And you have to be one of the only ones to know.  In other words, you have to have information that none of the other market participants have (why insider info is such a big deal), which enables you to decide the security is underpriced, and you have an opportunity to exploit that market inefficiency.    Once "the market" gets ahold of that same information, that caused you to buy because you think Walmart is underpriced, they will buy too on that information...and hence, the opportunity will disappear.    Same thing on the sell side.  You could short for excess returns, if you knew at exactly what point a security became overvalued.  How would you determine overvaluation?  Well, you'd base that off of information.  So is the rest of the market.  You have to know something the rest of the market doesn't, in order to exploit it.   So indexing revolves around this notion that in  many cases, there are SO MANY particpants, with SO MUCH information, these opportunities to exploit market inefficiencies are rare, and small, and not worth the 50 bps or 100 bps "Management Fee" to a fund manager.  Because these managers don't know enough "exclusive information" in order to consistently beat the market, by a wide enough margin, to overcome their fee.   This is also why I say active management is worthless in some cases, and valuable in others.  I   f everyone on this forum was asked to manage a portfolio consisting of any (and ONLY) stocks found in the Russell 1000, and we would be paid 1/2% for our services each year.  Out of our returns, we would pay transaction costs as well, just like the "real world."  Over the course of 10 or 20 years, we would compare all of our returns to the performance of the Russell 1000 itself, with no management, and no costs (or at least, lower costs than our 1/2%), in excess of 99% of us would underperform the index.  It's a fact.  It's not an opinion.  The research is out there validating that very statement.  We could all go get our CFAs, MBAs in Finance - hell, a Ph.D in finance.  I don't care what you do.  Over that period of time, 99%+ of us, will underperform the index.    We simply don't have enough information, to cherry pick stocks out of the Russell 1000, that will enable us to "beat the market."  Too many other people have the same info, or even better info.  Too many people are trading on the same info we have.  There is no free lunch - we either need to discover something about those companies that nobody else knows, or we need to earn a fair, market return, on those stocks.  Period.   Now, change the security population to say....we can invest in any equity, from any sized company, based in the Middle East.  To be honest, I'd be hard pressed to name you 5 companies that are even based in the Middle East - let alone know where to find information about them.  There is a drastic difference in the amount of information we can obtain about those companies, versus the companies found in the Russell 1000.  Therefore, the market participants can't make as good of decisions, or more accurately, more 'rational' decisions.  So, what you'll have, is a less-efficient market.  So now, what are the chances that we can discover some information, about these companies in the Middle East, that would enable us to beat the market, significantly enough, to outperform it?  The odds of discovering information, that other people trading in that market, don't know?  Well, if I have the scope of a company like Goldman, or Ivy, or Oppenheimer, or whoever, maybe...just maybe...I can pull out some extra return from an inefficient market segment like this, and justify my 1% fee.    Sorry if that's jumbled, I'm rushing for an appointment soon.[/quote]

I know one thing...Your clients would sh!t if they knew they were paying you to do all that typing.

[quote=iceco1d]

Well, I suppose I could always spend my free time doing something less time consuming…like say, running my own forum? 

Just kidding.   Honestly though...What I do with my free time is none of my clients business.  Just like the car I drive.  The religion I choose.  How I raise my kids (if I had any).  Or any of the other nonsense, people in this business worry about.  [/quote]

If you can get people to pay you to clear the snorkel, while watching midget porn, more power to you.

[quote=B24]

This is why some "global allocation" funds do very well over time.  They can go anywhere in the world, in any asset class, to find the best assets to buy.  They're not trying to beat an index, they're not trying to outperform anything.  No "relative return" benchmarks.  They are just trying for positive total return, all the time.  This is why I like funds like Blackrock Global, Ivy Asset, First Eagle Global, Capital Income Builder.  Other than 2008, where everything lost money, these funds post superior long-term positive returns.  You can't really benchmark them against anything, as their holdings constantly change.

I also find that DEEP value managers (think Mutual series - Mutual Discovery and Mutual Shares) tend to perform very well over the long term.  It's tough to lose big when you're searching for deep value - even during growth cycles.  This is one of the things I dislike about indexes - some indexes can't replicate all investement styles real well.  But if you are a pure "style box" asset allocator, I think indexing is mostly the way to go (other than maybe sm. cap, emerging mkts, and international FI).

[/quote]

And I suppose the Bengals would be a pretty decent football team if they could find a way to convince the NFL to stop keeping score.