Stocks — Part XVI: Index Funds Are Really Just for Lazy People, Right?

Ah, no.  Index investing is for people who want the best possible results.

Over the last decade or so some of my investing ideas have drawn comment on other blogs and forums. Lately, I’ve noticed that even those folks seeking to compliment me sometimes frame my position on Vanguard and index funds as sound advice only for average people who don’t want to work very hard at investing. The idea being that with a little more effort in the selection of individual stocks and/or actively managed funds smarter, more diligent folks can do better.



I can’t do this. Can you do this?

I can’t pick winning individual stocks and you can’t either. It is vanishingly difficult, expensive and a fool’s errand. It will erode your returns in such a fashion as to make planning your withdrawal rate a much dicier proposition.

Take a look at this video clip from a few months back and consider Apple, then most valuable company in the world: video no longer available 🙁

These are very smart people being interviewed, with analytical tools us individual investors can only dream about. Apple was trading at 700, clearly on its way to 1000. The interviewer pushes to get even a hint of possible concerns, and good on him for it. But they were absolutely convinced Apple was cheap and a buy at 700. Their reasoning was sound. Yet here it is opening at 442 today. Oops.

Will it go higher from here? Possibly. That’s why people are willing to buy at this level. Will it go lower? Possibly. That’s why an equal number of people are willing to sell at this level. Never lose sight of the fact that anytime you buy or sell a stock, no matter how careful your research and sound your thinking, there is someone on the other side of that trade just as convinced you’re wrong.

As you may know there is a school of thought that suggests that even the super-star investors, think Warren Buffett, are simply lucky. Even for a hardcore indexer like me, that is tough to wrap my head around. Yet here’s research that suggests that only the very top-tier of money managers outperform and that when they do it is almost impossible to distinguish skill from luck:  Luck v. Skill in Mutual Fund Performance

Many years ago I had a martial arts instructor who was talking about effective street fighting. On the subject of high kicks he had this to say: “Before you decide to use kicking techniques on the street ask yourself this question: ‘Am I Bruce Lee?’ If the answer is ‘no’ keep your feet on the ground.” Good advice when you’re playing for keeps.

Bruce Lee

Are you Bruce Lee?

The point is this: As cool and effective as kicks look in the movies, tournaments and in the dojo, on the street they are very high risk. Unless you are both very skilled and significantly more skilled than your opponent (something unknowable in street fighting or investing) they are likely to leave you exposed and vulnerable. Even, and this is critical, if you’ve had success with them before.

So too with investing. Before you start trying to pick individual stocks and/or fund managers ask yourself this simple question: “Am I Warren Buffett?” If the answer is “no,” keep your feet firmly on the ground with indexing. (If the answer is “yes,” it’s nice to have you here, Warren.)

So let me take a moment to be absolutely clear. I don’t favor indexing just because it is easier, although it is. Or because it is simpler, although it is that too.

I favor it because it is more effective and more powerful in building wealth than the alternatives.

I’d happily put in more effort for more return. More effort for less return? Not so much.

For more:  

Addendum I:

Here’s Jack Bogle on the Market. Bogle is the best thing that ever happened for us small investors. Listen to this five minute interview and take the concepts to heart. On Market Timing: “I’ve been in this business 61 years and I can’t do it. I’ve never met anybody who can do it. I’ve never met anybody who’s met anybody who can do it.”

Addendum II:

In addition to underperforming Index Funds, actively managed funds cost more, and those costs have a very serious and negative impact on your results. My pal Shilpan has a great post on this: That Mutual Fund is Robbing Your Retirement

Addendum III:

“After reading your series and the Bogle book, I can’t come up with a reason not to pursue a nearly solely index-fund strategy. It is so elegant in its simplicity and it makes intuitive sense to me, and you can outperform nearly everyone else with zero work and nearly zero fees. That’s incredible!” Brad of The ChooseFI Podcast

That comment is from an exchange we had on his blog under the post the link will take you to. I can’t say it any more eloquently than that.

Addendum IV:  Warren Buffett’s plan for his widow

Addendum V: 

Speaking of Warren Buffett, in the comments below reader sbvol98 provided this link: Warren Buffett on track to win hedge fund bet

Back in 2008 Buffett bet a S&P 500 index fund would best a fancy-pants Hedge Fund over ten years. Six years in:

Fancy Hedge Fund:  +12.56%
S&P 500 index fund: +43.8%

Addendum V-b: 

Planet Money (NPR) podcast on the Index Fund v Hedge Fund bet

Addendum VI:

At various points on this blog I suggest only about 20% of active managers outperform the index. That’s being a bit generous.

This is a ballpark figure based on the many articles on this I’ve come across on this over the years. In fact you can Google this question and find several falling around this percentage. I’m not sure why they vary. Some look at different time frames. Some at different metrics. Some factor in costs, some don’t.

Clearly it is easier to get lucky and outperform the shorter the time you need to do it. Even I called the market almost exactly last year, and I can assure you it was no more than luck: :)

 Vanguard has done research on this looking at a 15-year time frame:

In it they point out that 45% of actively managed funds fail to even survive over that time, let alone outperform. Only 18% both survived and outperformed. And even those frequently had long periods of underperformance.

So even if you are lucky enough to pick one of the out-performers, it will be tough to live with.

This article references studies done for an even longer period: 1976-2006, 30 years:

The results are even more shocking. As the article says:
“Barras, Scaillet and Wermers tracked 2,076 actively managed U.S. domestic equity mutual funds between 1976 and 2006.

“And — are you sitting down? Only 0.6% — you read that right, 0.6% — showed any true skill at beating the market consistently, ‘statistically indistinguishable from zero,’ the three researchers concluded.”

On reflection, calling the out-performers at 20% I am too generously off the mark. :)

Addendum VII: In his comment here, reader Nate sums it up exactly:

“I’m at 100% equities. Ever since I graduated two years ago, my only investment ever has been the total stock market index fund. I love the simplicity of it and I have no interest in trying to time the dips. You get such amazing, nearly magical returns from the extremely low cost and broad diversification of the total stock market index fund. It makes me kind of sad to see people getting nervous or excited about the dips and rallies. You have this almost perfect wealth building tool and very few people trust it and use it through the highs and lows.”


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Important Resources

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  1. Cody says

    Great post. I’m convinced index funds from Vanguard are the only way to go. The more diversity and the lower the fees the better. I’m a big fan of your strategy to go with VTSAX.

      • Froogal Stoodent says

        The brief answer is further diversification. VTSAX gives you the ENTIRE market; an S&P 500 fund only gives you the biggest companies.

        The longer answer: Currently, VTSAX holds over 3700 stocks. An S&P 500 fund only includes 507 (including a couple companies that split into two classes, such as Alphabet [Google], Visa, Nike, and Berkshire Hathaway).

        The S&P 500 only includes what are called large-cap stocks–the ultra-large companies. VTSAX includes small-cap and mid-cap as well. Notably, many experts (like Paul Merriman) recommend keeping a portion of your money in small-cap funds. VTSAX will give you that.

  2. David W says

    A wise person once told me that trying to buy funds (or stocks) based on past performance is like trying to drive by looking in the rear view mirror. One of the big reasons I’ve been favoring index fund investing is the extremely low expenses. Every percent you take off the expenses is a percent you add to the return.

  3. SavvyFinancialLatina (@SavvyFinLatina) says

    So you don’t own any individual stocks???
    What do you think about Employee Stock Purchasing Programs. I currently have one but I have to hold the company stock for three years before I get vested and receive matching shares. The more i think about it, the more I want to decrease the percentage of my contribution. I’m getting paid in salary, but immediately put 4% into my company….not sure who wins here….
    It’s not like I am working for Apple or J&J. My stock doesn’t have a tendency to appreciate quickly.

    • jlcollinsnh says

      not at the moment, but I have. both before, during and after working for the investment research firm. I was very slow to give up the intoxicating idea that I could pick the winners. Occasionally I did and let me tell you life offers few bigger thrills than watching your selected stock ratchet its way ever higher. That what makes it so seductive and dangerous.

      The only way I’d participate in a company stock program is if:

      They were giving me stock options
      They offered a generous match, giving me an instant profit

      In both cases I’d off load it as soon as permitted.

      Owning stock in the individual company you happen to work for is every bit as dangerous as owning any individual stock. Plus if things go bad you might find yourself unemployed at the same time the stock is plummeting.

        • jlcollinsnh says

          S&P 500 is fine and in fact makes up ~80% of VTSAX. The remaining 20% is small and mid-cap companies. It is this additional coverage that leads me to slightly favor the total stock market fund.

          • Frankie says

            I am just grateful to find your website. Appreciate your great contributions to the individual investor around the world.
            I would like to follow the simple path to wealth. Can you kindly explain how is your mindset like to sell all your beloved stocks?
            I find it hard to do.
            I owned Berkshire Hathaway, Brk.b and Djco for the past 8 years and I am kind of emotionally attached to it.
            Thank you once again for your help.

          • jlcollinsnh says

            First, I don’t hold individual stocks. I hold only VTSAX and my holding period is forever, excepting only when I sell a few shares using the 4% rule.

            All this and more you’ll find in reading the Stock Series here and/or my book.

          • Frankie says

            Ok, thanks!
            I thought you were a stock picker before you became an indexer.
            I am trying hard to make the shift and finding it tough to sell all my beloved stocks.

          • jlcollinsnh says

            Ah, I think I mis-understood your question.

            I was never emotionally attached to my stocks; they will never love you back. 😉

            I sold when they failed to deliver or I found a better use for the money.

            If you are ready to move to indexing, the only consideration (for me) would be capital gains taxes if you hold them in a taxable account.

          • Alison D says

            Ah. Thank you. That is exactly what I was wondering. I’m probably going to reinvest my 401k in the fidelity equivalent this week.

      • Steve W says

        JL – just discovered your blog and I’ve been enjoying your investment wisdom.

        I once worked for a company that had an ESP (employee stock purchase) program. The way it worked was that every quarter you could purchase shares in the company. They would look at the price at the beginning of the quarter and the end and my price would be the lower of the two, less 15 percent.

        So if it traded at $10/share at the beginning of the quarter and $12/share at the end, my ESP strike price would be $8.50/share ($10/share – 15%). Conversely, if it opened at $12 and closed at $10 my strike price would be the same since it was based on the lower of the two.

        Now I’m not a sophisticated investor but that looked like guaranteed money to me. The minimum I would make is 15% no matter what. So my strategy was to buy as much as I was allowed to and sell it immediately. Then I would take the profit and put it into my IRA in an index fund. Not only would it minimize the risk by spreading out the investment more broadly it would also lower my taxable income income at the same time.

        Love your blog! Keep up the good work.

    • robdiesel says

      The danger I see with employee stock options is if you’re working for a company with shady accounting. Enron/Worldcom and other companies were probably looking great to the employees, but when the house of cards came tumbling down, not only did they lose their jobs, but their entire life savings – or at least a good chunk of what they thought was their nest egg.

      It’s a little too much “all eggs in one basket”, unless you know for a fact that the pecuniary matters are top notch at your work.

      • robdiesel says

        Aaahhh shoot. I see Mr. Collins already said pretty much the same thing. I guess there’s a bit of an echo in here. hehe.

        I do own individual stocks, and some have dropped (from my early days of know-nothing investing) and most have increased quite a bit. I’ve only been an active investor the last 4-5 years though and lucked into LUK, NFLX, SAN and SIRI early on. I generally like the idea of buying for at least a year, but ideally companies I never want to sell.
        Also, there’s no profit if I don’t sell them (let’s ignore dividends). At some point they will sell, maybe a piece at a time, and support my early retirement if all goes well. Hopefully they are also far higher than today.
        Alas, if the numbers don’t make sense, I will sell and cut my losses/take my profit and move on.

        I have VTSAX as the “only put money in” fund. No need to sell THAT.

  4. Mr. Everyday Dollar says

    Good post. While I generally agree with you, I know many individuals that do perform better than indexes.

    Personally, I own individual stocks and use the S&P 500 as the benchmark for my performance. I’ve been investing for the last 6 years and as of today have 10.5% annualized returns higher than the S&P 500’s annualized returns during the same period. Lucky or not, the fact is that the portfolio of 20 some stocks is crushing the market. Now if the returns were on par with the S&P, I would have serious concerns about the time and effort I spend investing – something I enjoy – and I would choose a portfolio of Vanguard funds (VTSAX, VBTLX, VGSLX).

    Individual stock investing is not without risks and in my opinion favors LTBH investors (that don’t listen to all the noise, the talking heads) over traders.

    • COMatt says

      But, is the S&P 500 the appropriate benchmark for your performance? Do you only trade in Large Capitalization US stocks?

    • Derek says

      I agree with the other reply. How does your performance track relative to the Russell 2000? Are the stocks you picked in the S&P or are they small caps?

    • Jlearmon says

      The point is, if he is beating the 500, he is beating the most popular index funds. It is possible to beat them. It isn’t just luck. That’s what people who can’t beat the market tell themselves to feel better. Its ok to invest in index funds. But don’t deride other people’s success just because your dreams of being a stock ninja were crushed by lack of skill, judgement, temperment, or luck.

      • FS says

        The question isn’t so much whether it’s possible. It’s whether it’s possible *for a sustained period of time, net of fees and taxes.*

        There’s plenty of long-term research on professionally-managed funds. What they consistently find is that some finds manage to outperform for a year or two, but they proceed to underperform for another stretch.

        Over the long haul, once you count the fees and/or tax consequences associated with those trades, almost everybody would be better off in an index fund.

        For reference, see the SPIVA report for 2020. Since 2000, it found that 86% of actively-managed domestic stick funds underperformed their benchmark indices, and the result was almost exactly the same for global funds. I apparently can’t provide a link here, but you can search it for yourself.

  5. mutilatethemortgage says

    Hey JL,
    Really like this (endless?) Series 🙂 There’s also another series going on over at Renewable Wealth pulling some punches as to why Index Investing isn’t all it’s cracked up to be etc and how it may not pan out so well in the future if EVERYONE is just constantly pouring all their savings into index funds.

    Have a read and maybe you could post up some counter arguments? As a scientist I always like to hear both sides of the story in full if I can 🙂

    • jlcollinsnh says

      Thanks MtM….

      who knows where it will end! (you trying to tell me something here??) 🙂

      I’ve noticed Sean has started that series, but his timing is terrible. For me. I’ve just been slammed and barely able to keep up with my own blog. I have bookmarked it and am curious to read what he has to say. He’s a thoughtful guy worth listening to. Once I do, I’ll either comment over there or maybe write a post here in response.

      As to the worry as to what happens when everybody is indexing, I give it not a single thought. It is like the worry “What if everybody becomes frugal?” Human nature being what it is, people will forever confuse wants with needs and they’ll forever try to out perform the market. The internet is filled with people seeking to do it, against all evidence. As I’ve said elsewhere on this blog:

      “If you choose to try to best the averages, God Bless and God Speed. You may well be smarter and more talented than I. You are most certainly likely to be better looking. I’ll look for your name along with Warren and Peter’s in the not too distant future.

      I extend the same to all those folks I’ve met in Vegas who assure me they have bested the house. I listen, gaze up at the billion dollar casinos and reflect on how many smarter, more talented and better looking people there are than me.”

      • Sean says

        I have to say that I have been awaiting your response either here or in the comments with bated breath. 😉 I’m taking a much needed few days off right now, though.

        As for the Vegas analogy, you’re a poker player, if memory serves. To me, poker is a better analogy than slots. Most people who do it are still just gambling and bound to lose to the sharks. But not all.

        • jlcollinsnh says

          Ha! I’m sure I’ll disagree. 😉

          Good to see you here, Sean. As I said to MtM I am looking forward to reading it; I always find value in your perspective. Just haven’t had the time of late. How many more posts do you have planned for the series? Maybe when you’re done I’ll set aside the time and read thru them all at once.

          We might not agree on index funds, but I do pay attention to what you have to say. For instance, your comment that my blog design makes your eyes bleed. I always liked it (I chose it after all) but your point’s well taken. As it’s now under renovation, time for a change. Emulating the starkly elegant design you have on yours is the goal.

          More accurate to say I used to play poker. In fact, I just spoke to Johnny (the guy who hosted our weekly game in Chicago) for his birthday today.

          The advantage of Vegas poker is, unlike all the other games, you’re not playing against the house advantage. But the tables, as you point out, are populated with very, very dangerous sharks.

  6. Prob8 says

    Sure it’s possible to beat the market by stock picking. More likely, though, you’ll lose. I don’t buy individual stocks because I know that by going with the index I will beat the vast majority of mutual fund managers – guys who live and breathe this stuff.

  7. Trisha Ray says

    So, as an inspiration, I’ve been re-reading your blog posts – and the MMM ones, and taking notes.
    I’m teaching my kids. My youngest son (20) has your words on his cell-phone screen:

    Live on less than you earn.
    Invest the difference.
    Avoid debt.

    Thanks for improving the life of my kids.

    And mine – I’ve lost (and worried) more than I care to think about trying to beat the market over the years – including companies I worked for. (Pan Am?)
    I’m sold on index funds.

  8. cashrebel says

    Like always, a fantastic post. Ive based most of my investing strategy on your sage wisdom. I always hear people mention that they don’t do indexing because they are willing to take the time to learn about stocks. All the books I’ve read agree with you, not them, so thanks for setting the record straight.

  9. Sfi says

    Indexing is good when you consider the fact that most funds are large enough (many positions) that outperformance becomes difficult. It becomes hard to figure out which stocks will perform better over time ( eg staples in 2011, financials in 2012) since markets are fickle.

    But having said that dont forget that even a broad index has a lot of risk and volatlity. The s&p500 went down over 50% 4 years ago. You can earn 7% per year in the debt market without taking equty risk at all. So my point is that there are different ways to make money not just funds.

    If you want to outperform in stocks it can be done. You need to diversify less than many people are comfortable with. You need to invest in companies that others wouldnt buy or dont know about (there are classes of stocks that are not represented in indexes well, so they are underowned).

    When people ask me what to invest in, they dont like my answers. Well if more people thought they were great investments , then they would be overowned right? Outperforming isnt pretty.

    • jlcollinsnh says


      Sounds like you haven’t been around here long Sfi, or read much of this Series. Risk and volatility are among the very first topics covered, beginning with Part I — There’s a Major Market Crash Coming!!!

  10. 101 Centavos says

    I’ve played indoor soccer with a couple guys in their sixties that can still chase after the ball like hounds after a rabbit. My head says, I can be like them, I can keep on playing. My fifty-year-old injury-prone legs say, no, you’re not… you’re not those guys, sit your a$$ back down.
    I have both individual equities (mostly dividend-paying) and index funds. I’ve done swell on both courses, but mileage may vary for others.
    And “Enter the Dragon” was an excellent flick. The battle with the guards was magnificent!

  11. cgk says

    Thanks so much for another great post. I was just starting to feel a bit itchy regarding my index funds – all those contrary articles saying how indexing isn’t a good idea, well, they sort of seep in and make one feel a bit less certain.
    So much appreciate the time and effort you take to share your wisdom. Thank you.

    • jlcollinsnh says

      My pleasure, cgk!

      For my part, I love seeing those anti-index fund articles. Confirms my faith that most people will forever try to out perform the market, regardless of the evidence. In a perfect world, I’d like to have indexing all to myself and, of course, my friends here on the blog.

      • Sean says

        Fascinating. The point you make here is one of my primary criticisms of index funds, at least in the current environment.

        In order to piggy-back on crowd-sourced prices, you need an actual crowd to source the prices from. The fewer people in the crowd who actually move prices based on some form of fundamental analysis, the more divorced from reality those prices become.

        As usual, we seem to agree far more than we disagree.

        • jlcollinsnh says


          I gave your first three parts a quick read and, while I’d want to read more closely and think a bit more deeply about your ideas, the points you seem valid. But they wouldn’t dissuade me from the index strategy I suggest.

          You appear to be exercising a bit of philosophical “what if” analysis. What if the pace of index investing grows to overwhelm the market. If, as you say, “Everybody” indexed, we might have to reconsider. But I don’t see that happening. Two reasons:

          1. As I’ve said before, human nature being what it is, people will always look for the angle. Even now, when the evidence is clear that out-performance is virtually impossible, there is a HUGE Wall Street industry based on the premise that it can be done.
          2. If Indexing were ever to reach levels where it truly distorted the market and opened up genuine out-performance opportunities, the tide would turn on a dime.

          Further, if Indexing grew to 100% of the market stocks would still be competing with other asset classes –Bonds, precious metals, commodities, REITs and the like — for investment dollars. This would require some relative valuation analysis, so that wouldn’t entirely disappear. But, again, it ain’t gonna happen.

          As you say, as usual, we seem to agree far more than we disagree. And, as I predicted, your take is thoughtful and insightful.

  12. chronicrants says

    I see buying individual stocks like buying lottery tickets: you’re unlikely to win, but it can be fun to play. I buy a few lottery tickets each year and I consider them an entertainment expense. They give me a chance to dream, even though I know I probably won’t win. Last year I bought two individual stocks, while keeping the vast majority of my investments in index funds. One stock went down and the other went way up. I hate seeing the numbers on the down one, but the up one is a ton of fun. But this is my “play money.” Having most of my investments someplace where I can feel more confident is what allows me to do this and not sweat the downturns. Someone recently asked me incredulously why I didn’t buy a whole lot more of the stock that’s doing well, but that’s just it – I had no way of knowing it would do so well! (It’s up about 50% from when I bought it last Feb.) It could just as easily have gone down. By only buying 10 shares, it wasn’t a huge risk, so I could have more fun with it. I just wish I could convince certain friends to focus on index funds. It seems like a much more prudent approach, considering they aren’t Warren Buffet either.

  13. chenzhaowei says

    This reminds me of a video that I saw today.

    It is why I am suspicious of the talking heads on TV or financial advisers because their interests and mine are so diametrically opposed. You wouldn’t want to let people know about your profitable information because then it would no longer be profitable. But that does assume that they would know something that you don’t, which is usually a stretch when talking about the overall economy.

  14. RW says

    Great series of posts that just keep gettin’ better. Loved the straight talk video posted by chenzhaowei. SNL strikes again!

  15. jlcollinsnh says

    My pal Sean runs a fine blog and recently has been posting a series of “Confessions of an Index Investing Skeptic.” Here’s a link to the first:

    Several readers here have asked for my response to it, including Sean. Unfortunately, while I am keenly interested in his ideas, his series comes at a time when I am just slammed. Moreover, as thoughtful as they are, they deserve a close reading.

    In the comments below you’ll find some of this conversation, but I wanted to include my last here so that, for those of you interested, it’s not buried:

    Hi Sean…

    I gave your first three parts a quick read and, while I’d want to read more closely and think a bit more deeply about your ideas, the points you make seem valid. But they wouldn’t dissuade me from the index strategy I suggest.

    You appear to be exercising a bit of philosophical “what if” analysis. What if the pace of index investing grows to overwhelm the market. If, as you say, “Everybody” indexed, we might have to reconsider. But I don’t see that happening. Two reasons:

    1. As I’ve said before, human nature being what it is, people will always look for the angle. Even now, when the evidence is clear that out-performance is virtually impossible, there is a HUGE Wall Street industry based on the premise that it can be done.

    2. If Indexing were ever to reach levels where it truly distorted the market and opened up genuine out-performance opportunities, the tide would turn on a dime.

    Further, if Indexing grew to 100% of the market stocks would still be competing with other asset classes –Bonds, precious metals, commodities, REITs and the like — for investment dollars. This would require some relative valuation analysis, so that wouldn’t entirely disappear. But, again, it ain’t gonna happen.

    As you say, as usual, we seem to agree far more than we disagree. And, as I predicted, your take is thoughtful and insightful.

  16. Simply Rich Life says

    It’s true… index funds are only for average people who don’t want to work very hard at investing. After all if you have a full-time job and then you come home and spend another 2,000 hours/year researching stocks and learning all you can about the market, you probably have a good chance of beating the index (even if you only make one extra dollar out of it which still counts as beating the index). Anyone who is too lazy for that just has to resign themselves to the mediocrity of the average.

  17. Break70 says

    Hi JL,

    I’ve been retired for over 5 years (@59) and I used to watch Louis Rukeyser back in the day.

    I have been enjoying reading some of your blog since I discovered you on MMM’s blog. I see VTSAX earned 1% for 2011, I would have been happy with a 1% gain for that year.

    I’m glad your portfolio is working for you. I like tinkering with my portfolio. I’ve been looking for a better way to be in equities and bonds and I like your solution.


  18. BKsaver says

    Hi JL,

    I just finished reading your investing series and it is awesome! MMM pointed me in your direction originally. Thanks so much for the great wisdom.

    I have a big question to figure out around how or if I should move my investments from regular managed funds at Fidelity (Roth IRA) and Vanguard (old 401k). I started investing in those before learning about expense ratios so am in vested in a bunch of different diversified funds that perform well from a return standpoint. But I feel as if I’m losing money paying for the management as you and many other have pointed out since I’ve been reading more about it.

    I have about 175k in stock funds in both those accounts and don’t know the right strategy to move them to lower expense index funds. Does timing matter since the market is pretty high right now? Is it better to just sell and buy all at once? Dollar cost average move them and do 10k per month or something? I’m aggressive and want to put it all in stocks (I have substantial cash in a 1% savings for deflation).

    Any advice would be very helpful as there isn’t much out there I can find now.

    As an FYI, since I learned about expense ratios and index funds I’ve invested about 70k in Vanguard index stock funds. I’m 37 and am shooting to be financially independent in 10 years or less. I have about 350k in (conservative) real estate investment profits on a rental as well so feel like I have enough in the real estate sector.

    Thanks for the advice!

    • jlcollinsnh says

      Thanks BK! Glad you are here and finding it useful!

      Sounds like you are making great progress. Congrats!

      Since you will be moving from stock fund to stock fund the level of the market really doesn’t matter. Sure, stocks could drop from here. But you’d experience that decline whether you make the switch or not.

      And because you hold these in tax advantaged accounts like IRAs and 401ks, rolling them into another IRA is not taxable. Just be sure you have it sent directly from your current IRA to the new one.

      VTSAX would be my choice.

      For more on the timing issue, check out the comment conversation with Zoltan here:

      • BKsaver says

        Thanks so much for the quick advice and reply. After doing some research as of today I’m all in on the Spartan Total Index fund on my Fidelity side and will be moving to VTSAX on the Vanguard side later this week. It feels really good to consolidate!


  19. PFgal says

    Jim and other readers, I’d love some advice.

    I just moved everything over to Vanguard and the funds became available for investing today. I was all excited to invest, and then I got stuck. I was looking at VTSAX and VOO. They have the same fees but VOO returns a higher dividend. VOO is basically the S&P 500 while, as far as I can tell, VTSAX is that plus a lot more. I’d love opinions on how to choose one over the other. Or maybe there’s a third choice I should be considering?

    Thanks for any advice you can give!

    Info about the two is here:

    • jlcollinsnh says

      Hi PFG….

      VOO is also the ETF version of VFIAX:

      In the same fashion, the ETF version of VTSAX is VTI:

      So you are really looking at two different things on two different levels:

      Mutual Fund v. ETF (exchange traded fund)
      Total Stock Market Index v. S&P 500 index

      In my opinion, you can hold these portfolios as mutual funds or ETFs, the only caution being that ETFs allow for frequent trading which is something to avoid and they can come with trading costs.

      VTSAX holds virtually every US based publicly traded company: Currently 3245 different companies.
      VFIAX holds the S&P 500, basically the largest companies in the country: 503 at the moment.

      While VFIAX and its ETF,VOO are fine choices, I prefer VTSAX for the broader reach and the chance to own some companies at their small size/faster growth phase.

      Hope this helps!

      • PFgal says

        Thanks for the feedback! That really helps, and I appreciate you taking the time to clarify things for me. I’m excited to finally move forward with this!

  20. Kevin Kane says

    Jim, I read your entire stock-market series a while ago when MMM linked to it.

    I’ve read a lot on investing, and I think that you might have explained better than anyone else the emotional fortitude needed to invest in equities for the long haul.

    I’m not sure I should thank you for that — I like taking advantage of the wimps who sell their shares during a recession. I like gobbling-up their shares at a discount! 😉

    Thanks for your great information and I appreciate your irreverent and down-to-earth writing style. Keep being awesome.

    • jlcollinsnh says

      Thanks Kevin…

      ..I very much appreciate your comments. One of the things I worry about is that people will pick up on the fact that the market is a very powerful wealth building tool and somehow miss my point that it is also a very wild and gut wrenching ride.

      But don’t worry, every correction will have large numbers of people running in panic for the exits. I only hope is that the few readers here will know better. 😉

    • jlcollinsnh says

      Thanks, sbvol98…

      I had heard of that 10-year bet but hadn’t seen the update of how it was going. Six years in:

      Fancy Hedge Fund: +12.56%
      S&P 500 index fund: +43.8%

      Just added the link as an addendum to the post!

      Last week I had lunch with a pal who is a former hedge fund guy.

      I said: “I can easily understand why someone would want to own and operate a hedge fund: The profits and fees are huge*. But I can’t understand for the life of me why anybody would invest in one.”

      He said: “Beats me. I never understood that either.” And then he laughed.

      *Typically 2% expense ratio and 20% of any profits.

  21. PG says

    I linked here from GoCurryCracker, and that link made it sound like you were going to bad-mouth indexing, so I came prepared for a fight. Glad to see I was wrong! I’ve read every academic study I could find regarding active vs. passive investing, and now I won’t touch active funds with a 10 foot pole. My wife and I have our IRA and Roth money 100% invested in diversified index funds. Too bad our 401K plan administrators are too foolish to provide us with enough index funds in those accounts to do the same. Damn them.

  22. MarredCheese says

    Regarding addendum VI, the .6% figure from the Market Watch article refers to the percent of active funds that had higher alpha, not higher returns. I’d gladly shoulder more risk for higher returns since I’m going leave the money alone for half of a century, though I understand that not everyone is as willing. The 53-page study (link below) is otherwise way over my head, but the 0.6% number is just so low that it doesn’t sit well with my BS meter, especially in light of the following:

    Your Vanguard link within that same addendum doesn’t work anymore, though I found a Vanguard study from 2013 called, “The case for Vanguard active management: Solving the low-cost/top-talent paradox?”(link below). It states that from 1997-2012, 63% of their active funds beat their benchmarks after fees, and from 1982-2012, their active funds outperformed by .35% on average each year when funds were weighted equally and .59% when funds were asset-weighted (also after fees). Those are long time periods and non-trivial performance differences, so it’s hard for me to ignore. It seems that because Vanguard’s active funds are only slightly more expensive, they are able to overcome that small handicap more often than not. Vanguard even implies this in the conclusion of their 2011 paper, “The case for indexing,” when they state the following: “. . . if broadly diversified active funds were able to minimize fees and turnover on a par with index funds, much of the indexing advantage would be eliminated.”

    It would appear that the odds of picking an active Vanguard fund that will increase your long term return are much better than a coin flip. The way I see it, A) it was 63% right off the bat over the last 15 years, B) since the asset-weighted returns were higher than equal-weight returns, your odds would improve by just sticking to big, popular funds, and C) due to survivorship bias, your chances are better if you pick a fund that has been around for a long time. Combine A, B, and C, and what do you have? A 70 or 80% chance of doing better with active than passive (if you stick to Vanguard)? That’s a very different conclusion than .6%. What do you make of this?

    One caveat is that taxes eroded any advantage the active funds had, though this is obviously irrelevant to IRAs and would probably be much less of a concern in taxable accounts that use ETFs instead of mutual funds.

    I also thought this sentence from the “case for active” paper was pretty astute: “. . . given the inherent volatility of any individual active fund, only those investors comfortable with what could be extensive periods of underperformance should consider actively managed funds. Timing managers is as counterproductive as timing markets, offering little prospect of success.” Just as with index funds, you have to stay calm and ride the roller coaster.

    • jlcollinsnh says

      Interesting points and they dovetail nicely with the January 24, 2015 conversation you started about Vanguard’s involvement in active funds over here:

      The Market Watch article does indeed suggest that only .06% of actively managed funds outperform over the 30 year period of the study:

      “Barras, Scaillet and Wermers tracked 2,076 actively managed U.S. domestic equity mutual funds between 1976 and 2006. They found that after fees, three-quarters of the funds exhibited zero ‘alpha,’ a fund’s excess return over a benchmark index. And 24% of the funds were run by unskilled managers (who had negative alpha, or value subtraction).

      “And — are you sitting down? Only 0.6% — you read that right, 0.6% — showed any true skill at beating the market consistently, ‘statistically indistinguishable from zero,’ the three researchers concluded.”

      In this case “alpha’ is indeed referring to active v. index performance: “Fewer than 1% of mutual fund managers persistently beat the market based on superior market-timing or stock-picking skills.”

      But interestingly, that same article does make the same point as the Vanguard piece you mention:

      “It’s not just that true stock-picking ability is as rare as, say, being a violin virtuoso or throwing a 95-mile-an-hour fastball; it’s that the profits from such talent are eaten up by trading costs or management fees.”

      Let me just say, I am not entirely convinced (for reasons described throughout this blog) that costs (while very important) are the only factor. Like Bogle, Buffett and many others I see stock-picking and market timing as a losing game in all but the rarest of cases. Bogle, for instance, has said that in his 50+ year career, not only has he never met anyone who was a successful market-timer, he has never met anyone who has met anyone who was.

      As was discussed in the comments on that other post, since Bogle’s departure Vanguard has become steadily more engaged with actively managed funds. As I pointed out there, this is something about which he has expressed concern and it is a concern I share.

      Of course, since they are on this path, they need to make the case for it.

      That said, they have kept the costs for their active funds lower than average. VGIAX, for instance, has an ER of .26%, and they say that “This is 76% lower than the average expense ratio of funds with similar holdings.”

      VGIAX is their fund designed to out-perform the S&P 500 index and, by extension their own S&P 500 index fund VFIAX. VFIAX’s ER is .05%.

      Further, VFIAX has outperformed:

      Since inception of VGIAX in
      2001: VFIAX +68%, VGIAX +36%
      10 years: VFIAX +70%, VGIAX +35%
      5 years: VFIAX +91%, VGIAX +87%

      Presumably, you could find an active fund that has outperformed over those same periods. But the problem, as always, is can you be sure that trend will continue? Or will it, at the end of the next 15 years, be in the group that has underperformed?

      You are, of course, free to take whatever decision seems best to you.

      As for me, along with Mr. Bogle, I’ll stay with indexing. In any case, we agree that it will be critical to stay the course.

      • MarredCheese says

        My discussions here and there do really go together. Thanks for linking the two, and thanks for continuing to take the time to reply to my comments with thoughtful answers.

        I guess I didn’t think the alpha comment through. I was thinking about it as risk-adjusted returns, meaning that in theory, adding risk could add returns without adding alpha, which is potentially beneficial. While that may be true (depending on who you talk to), it’s not really a relevant point since the purpose of an active fund is to have similar risk/beta as its benchmark while adding non-systemic returns/alpha. I see now that alpha is widely regarded as a measure of mutual fund performance.

        It’s confusing to look at studies like that one and the Vanguard one and not know what to believe. Even the .6% study mentions in the introduction that other recent studies found active management to be beneficial, and it doesn’t directly say that they are wrong or why. Each study just does it’s own thing.

        It’s frustrating, because passive funds are either definitely better or definitely worse than active ones. It is a fact. But that fact is a needle in a haystack, and that haystack consists of heaps of data – most of which I have no idea how to access or analyze – as well as opinions about that data that are countless, scattered, and highly distorted by ignorance, pride, and greed.

        When even Vanguard can’t get their story straight, it seems pretty hopeless. And that Bogle quote about never meeting a successful market timer is catchy and powerful, but is it totally true? I think that even if Bogle did meet such a person, he would not rush out to amend his statement, given that he has spent his whole life proliferating passive investing. And would I even want him to amend his statement? Probably not, since it serves to drive investors away from self-defeating behavior, soul-sucking fees, and dangerous false promises, and in the end, that is more important than potentially squeezing out an extra fraction of a percent of raw performance.

        Due to this seemingly inevitable lack of certainty, I may never amount to anything more than an indexer, for better or worse (hopefully better). But not before I play devil’s advocate on a few more of your articles 🙂

        • Daniel J. says

          I agree with your frustration, but would contest that your comment that “passive funds are either definitely better or definitely worse than active ones” is a false dichotomy. I think either could be better than the other. Are there funds that beat the pants off S&P 500 returns for many consecutive years? Sure. But how long can they maintain that level of performance? Who knows. As always, you never know who the winner is until after the race is ran.

          It behooves those involved in the financial industry to muddy the water and hide the needle in a haystack. Otherwise it would be so blatantly clear that the probability of success with index investing is magnitudes of order higher than 1) identifying an actively managed fund that produces superior returns over a 30-year or longer investment horizon, or 2) knowing when to abandon an actively managed fund when the magic has run out and identifying the next market beater.

          This is probably more of a statement to myself to stay the course and a reminder that without knowing the future the best I can do today is choose the option with the best probability of success.

  23. Ryan says

    Mr Collins,

    I’m 22. Just starting out. My question is should I max out a Roth IRA/Traditional IRA as well as a 401k that offers an s&p fund with .06 ER BEFORE adding any money to the VTI (choosing this over VTSAX until i have 10x)? Also, I have my roth ira with betterment (.35 ER and full diversification just so i dont shoot myself if my better judgement fails me in saying yours is the only plan to use) – and my Traditional IRA (diversification into both IRAs i see no harm in) with Sharebuilder with securities (i know you’re going to kill me) in the recommended individual stocks of – mainly just for the fun of seeing how well my individual – strictly jcollins advice stock – versus my “worldly advice” stock performs (gonna be rich either way so no sense nitpicking the difference of having 10million and 5 million because, well shit, 5million is just lovely :D)

    Main question in all this is do i max out the 401k and iras therefore leaving a very small very very very small portion left to put in vti (future vtsax) or do i say to hell with the 401k with my employer 6% match and my iras and go with vti?

    THANKS 🙂 – Give me the advise you’d give your daughter please

    • jlcollinsnh says

      Hi Ryan…

      As it happens, I just put up a post answering those retirement plan questions, including my hierarchy for deploying your investable cash:

      And here’s my take on Betterment:

      As for investing in individual stocks…

      You’ll very likely get killed but it will be the market doing the killing, not me. 😉

      • Ryan says

        Thanks so much for your reply sir. I read the articles extensively and will follow the recommendations for bucket allocation.

        Last question please,

        I still live with parents. I just bought a first car for 3500. My goal is to move out by may of 2016 but I’m felling overwhelmed with how to, with a salary of 50k gross, juggle saving 50% or more of salary in the buckets, while also creating a emergency fund, and alsoooo saving for a few months rent to move out andddddd figuring out how to keep this up after i move when apartment bills come into play?

        Im very streased and beginning to have chest pains at 22 just trying to juggle all this so any advice or posts on this would be exponentially appreciated sir.

        I really have readall your articles but the above points just werent hit for a person in my situation who messed up early on and trying to create my beginning and bounce in strong

        • Ryan says

          Also failed to mention i cant cook and have a american apetite so my food expense is around 500 a month which im trying to figure out hiow to cut….

      • jlcollinsnh says

        What I talk about here is how to invest the money you have once you are living on less than you earn.

        The question you are asking now, is how do you organize your life in such a fashion as to live on less than you earn.

        That is the subject for another blog. There are many out there that cover it, but this is my favorite and a great place to start:

  24. Felipe says

    Hi Mr. Collins,

    While I absolutely agree that indexing is the way to go for 95% of people, and something I do myself, isn’t there a big inefficiency in weighting by market capitalization?

    The mutual fund will buy more tech stocks in 2000 to sell in 2002, buy more financial stocks in 2007 to sell in 2009. Doesn’t this have a large drag on returns?

    • jlcollinsnh says

      Hi Felipe…

      While it is a characteristic, I don’t see it as an inefficiency.

      As for being a drag, the past performance is easy to see and it still is the most powerful way to invest in my book.

  25. GO4ITUSA says

    Hi Jim. I read this and thought of you. It’s about famed hedge fund manager Seth Klarman who warns that index investing will eventually distort the market and lose its utility. This by “locking in” relative values of securities because index funds will own so much that a natural resetting of prices due to earnings and any number of factors won’t be able to occur. You’ll have to ignore his political rantings about Trump to get to his thesis but I thought it interesting. Yes he’s no doubt “talking his book” to some extent but I have some basic issues with the plausibility (human nature will ALWAYS peel off a lot of people searching to be “above average”)…

    • jlcollinsnh says

      My guess is part of his concern is that indexing outperforms hedge funds over time and that endangers those juicy 2% ERs and 20% of any profits fees. 🙂

      Indexing accounts for ~20% of the market, so 80% is left for the active boys to set the prices.

  26. Dave Wagner says

    Mr. Collins,
    I have been reading a lot lately about a passive investing bubble since so many people are investing in index funds these days. Would you mind sharing your thoughts on this and/or pointing your readers toward good articles about this topic?
    Thank you,
    Dave Wagner

    • jlcollinsnh says

      Hi Dave…

      I’ve noticed that too and I think this passive index bubble concept is likely put out by active fund managers trying to use fear to defend their turf.

      The idea is that it is the stock pickers, individual and active fund managers, who create and price the market and if they go away the market will cease to function as a pricing tool. Perhaps, perhaps not. But either way the concern is over blown.

      While indexing is increasing in popularity, it is still only 20-25% of the market. There are still plenty of active stock pickers doing their thing. Likely there always will be:

      1. It is human nature and hubris to believe they are the ones who can beat the odds and outperform the market.

      2. Wall Street has a vested interest in encouraging this belief.

      My advice? Do what is best for you and let the active fund managers worry about seducing and guilting others into their arms.

      BTW, this is also a question that came up @ ~41.28 in my recent Google Talk:

      Hope this helps!

  27. Carlos says

    What would be the logic if the Index Funds don’t pay dividends on a periodic basis? In my country (Brazil) there aren’t any low-cost index funds, and the few index ETFs have a minimal 0.30% rate. And, these ETFs don’t pay dividends – they get re-invested automatically. So to get my 4% SWR I’d need to sell some ETF shares. In a bear market that means the savings get diminished and there aren’t dividens to make up for it.

    • jlcollinsnh says

      With most portfolios, pulling the 4% is going to require selling some shares. For instance, at the moment:

      VTSAX pays ~1.8%
      VBTLX pays ~3.12%

      The idea is that increases in share prices will cover that difference.

      Further the research around the 4% withdrawal rate is based on US index funds. As I am completely unfamiliar with the Brazilian markets, I have no idea if the funds available to you would serve.

  28. Arivan says

    I am really sorry for this immature comment but I just had a doubt which I would be glad if someone could clarify.
    In the post it was mentioned stock price of Apple reached 700$. The link of cnbc news clip is of September 2012.
    I went to google and saw the apple stock price plot and it never reached even 500$.
    What part am I missing here? Please tell.

    Chart of apple stock with max range of time.

    • jlcollinsnh says

      Hi Arivan…

      This post was written in 2013. The following June 2014 Apple stock split.

      That is likely what you are missing.

  29. Ryan says

    We are able to increase our retirement savings this year and are making some changes accordingly. This will be the first year that we’ll max-out our Roth IRA’s and need to take advantage of our 403b options.

    The big negative with the 403b is the lack of control over fund allocations. There’s a bunch of target-retirement date funds, and a few that seem even more conservative than that. I hope to retire with my teacher’s pension in 2035, so I could pick the 2040 or 2045 fund date for a little more aggression (or even a combo). 0.11 expense ratio.

    But there is one fund that tracks the Russell 1000 with a 0.08 expense ratio. This seems the closest option to VTSAX.

    Any thoughts on Russell 1000 vs. target date funds?

  30. Chris Goebel says

    I am 35 and unfortunately have done virtually no retirement planning. I picked up Bogle’s book on common sense investing and have been referred to your website. For beginners, do you recommend going straight to Vanguard and investing in their index funds, or does a service like Betterment function better for beginners? Thanks!

  31. Mitch says

    Mr. Collins,

    I’ve been a reader of your blog for a while now. I just want to say thank you for sharing all your good advice. As younger person in the early stage of my career I’m thankful to have stumbled across your site when I did.

    One thing I noticed on this post is you have a broken link in Addendum I. In my browser the extra bit at the end of the url prevents me from viewing the article. I think this is the intended article:

    I’d hate to see readers denied the chance to hear wisdom from the man you always defer credit to.

  32. Pedro says

    Mr Collins (and the whole website),

    I love the idea behind buying the whole market. But, unfortunately, vanguard is not avaliable for my country. And exchange rates (along spread rates) would simply destroy any profit I would have, if not turning it into loss. But that’s just my bad luck of being born in a developing country.
    The basic principles, for what I can see, is to buy as diversified as possible paying the minimum fees, correct?
    Would it be reasonable then, choosing a local index, that tracks the top 50 (out 400) stocks and charges 0.06 per year? What about one that tracks S&P500 and charges 0.6 per year?

    To my knowledge, despite not being the ideal, it would be better than stock picking. Am I losing something?

    Thanks in advance

  33. Aniruddh Fatehpuria (Rudy) says

    Mr. Collins, I just sent this article to my 16 y/0 cousin who’s beginning to get interested in money. I’m Indian, and although your book wasn’t available in paperback in my country, my sibling got a copy for me from the States, and it’s been the #1 finance book I’ve recommend to my friends and family, and I do so with a clear conscience.

    I’m 100% invested in India’s index, the Nifty50, and my total expense ratio is about 0.1 (which is the lowest I could find here). Should I diversify a bit of my money into the S&P500? There’s an option available here, but the expense ratio is 0.49.

    However, I do expect a little extra growth because I’d also benefit from the depreciation of the rupee over the dollar. Since Indian markets are not as mature yet, and because a significant portion of the revenues the indexed companies generate comes from India itself (while about 40ish% of S&P500 revenue comes from outside the US), is it a good idea to diversify into the S&P500?

    • jlcollinsnh says

      Hi Rudy…

      Glad you enjoyed the book and thanks for reccomending it. I believe it is available in India through Amazon, at least each month my report from them shows Indian sales.

      As to your question, the Indian market is too small to focus all of your investments there. Indeed, that is true of all markets other than the US.

      Diversifying into the S&P 500 is a good idea, but even better I’d seek out a low cost world index fund.

      • Aniruddh Fatehpuria (Rudy) says

        Holy moly, I can’t believe I got an actual response from JL Collins! Never felt this star-struck before.

        We have the option of buying the Kindle version and audiobook on India’s Amazon, but I wanted the paperback, that’s not avaliable yet. The day it is, I’m going to have to order a few extra copies for my cousins and friends!

        I checked the options we have for international funds in India, but they’re all actively managed. The only two options for overseas indices are the S&P500 fund and the Nasdaq100. I wanted a broad-based index, so I opted for the former (they both have the same total expense ratios).

        I’ll start prioritizing investing into the S&P500 as you’ve suggested, because SEBI (India’s regulatory authority) has limits on how much these funds can invest individually (limit’s 300 mil), and as a collective (7 billies) in overseas indices. No idea when that limit will be breached.

        Interestingly, the two overseas index funds I’ve mentioned only started this April.

  34. Aniruddh Fatehpuria (Rudy) says

    Holy moly, I can’t believe I got an actual response from JL Collins! Never felt this star-struck before.

    We have the option of buying the Kindle version and audiobook on India’s Amazon, but I wanted the paperback, that’s not avaliable yet. The day it is, I’m going to have to order a few extra copies for my cousins and friends!

    I checked the options we have for international funds in India, but they’re all actively managed. The only two options for overseas indices are the S&P500 fund and the Nasdaq100. I wanted a broad-based index, so I opted for the former (they both have the same total expense ratios).

    I’ll start prioritizing investing into the S&P500 as you’ve suggested, because SEBI (India’s regulatory authority) has limits on how much these funds can invest individually (limit’s 300 mil), and as a collective (7 billies) in overseas indices. No idea when that limit will be breached.

    Interestingly, the two overseas index funds I’ve mentioned only started this April.

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