You might not think it’s possible to outperform the average Wall Street professional with just one investment. Fund managers are highly trained and steeped in market data. They get paid a lot of money to make smart investments.
But the truth is, most of them may not be worth the money. With the right steps, individual investors can outperform most active managers of large mutual funds over the long term. You don’t need a PhD or an MBA, and you certainly don’t need to follow the day-to-day goings-on of the stock market. You just need to buy one investment and hold it forever.
That’s because 88% of active large-cap fund managers have underperformed S&P500 index over the past 15 years through December 31, 2023, according to S&P Global’s latest SPIVA (S&P Indices Versus Active) scorecard. So if you buy a simple S&P 500 index fund, like the Vanguard S&P 500 ETF (NYSEMKT: VOO)there is a good chance that your investment will outperform the average active investment fund in the long term.
Why is it so difficult for fund managers to outperform the S&P 500?
It’s a good bet that the average fund manager is hard-working and well-educated. But there are at least two major factors working against active fund managers.
The first is that institutional investors represent roughly 80% of all trading in the US stock market – far more than years ago, when retail investors dominated the market. That means a professional investor usually trades stocks with another manager who is also very knowledgeable, making it much harder to gain an edge and outperform the benchmark index.
The more fundamental problem, however, is that fund managers should not just outperform their benchmark index. They must beat the index by a margin large enough to justify the fees they charge. And that reduces the likelihood that any given large-cap fund manager will significantly outperform an S&P 500 index fund.
The SPIVA scorecard shows that only 40% of large-cap fund managers outperformed the S&P 500 in 2023, when you factor in costs. So if the odds of outperformance in one year drop to 40-60, you can see how the odds of consistently beating the index over the long term could become much smaller.
What Warren Buffett recommends over every other single investment
Warren Buffett is one of the smartest investors around, and he can’t think of a better investment than an S&P 500 index fund. He even recommends it over his own company, Berkshire Hathaway.
In his 2016 letter to shareholders, Buffett shared a rough calculation that the search for superior investment advice had cost investors a total of $100 billion over the past decade compared to investing in a simple index fund.
Even Berkshire Hathaway has two small positions in S&P 500 index funds. You’ll find shares of the Vanguard S&P 500 ETF and the SPDR S&P 500 ETF Trust (NYSEMKT: SPY) in Berkshire’s quarterly results. Both are great options for index investors because they offer low expense ratios and low tracking errors (a measure of how closely an ETF price tracks the underlying index). There are plenty of other solid index funds you can buy, but any of the above are an excellent option as a starting point.
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Adam Levy has no position in any of the stocks mentioned. The Motley Fool holds and recommends Vanguard S&P 500 ETF. The Motley Fool has a disclosure policy.
Do you want to outperform 88% of professional fund managers? Buy this first investment and hold it forever. was originally published by The Motley Fool
