Consistently be in the 80th percentile of investment performance
Updated: May 21
Because much of the news we hear is exception cases, such as stories of how an investor made a fortune in a mid-2000 IPO, or a Reddit forum giving a select bunch of novice investors information to achieve unbelievable returns overnight. We are often tempted to skip all the groundwork and create investment strategies that we feel will kick-start our journey in a similar fashion. Most of the retail traders buying holdings in cryptocurrency today is based on this same thought process.
There are a lot of emotions at play with an investment strategy based on fear-of-missing-out. This type of “investing” is fine in moderation, but because they often consist of a series of short-term bets, it should form a smaller part of your overall strategy to create wealth over the long-term.
In the long run, the serious part of your investment portfolio is likely to outperform the speculative part. Mainly because in any given period there are fewer emotions and fewer trades taking place.
I’m here to argue that investing in a single, well-diversified, low-cost, global ETF is the groundwork that you need in your long-term portfolio, and the evidence shows that it can consistently put you in the 80th percentile of investment performance over the long-term.
SPIVA (stands for S&P indices vs active) is a division of S&P Global that does research and generates scorecards based on how active investment managers perform against their comparative index benchmark. This research is conducted across many countries and regions.
A local example would be the Allan Gray Equity Fund. This fund invests primarily in shares that are listed on the JSE, and a quick look at its factsheet shows that it has achieved an annualised return of 5.4% per over the past 5 years.
The comparative index benchmark according to SPIVA is the S&P South Africa 50 index. This index is made up of the 50 largest South African companies on the JSE which covers around 85% of the listed South African equity market. The S&P South Africa 50 Index has achieved an annualised return of 9.4% for the past 5 years.
SPIVA therefore adds to their scorecard that over 5 years the Allan Gray Equity Fund has under-performed an index of which they consider to be an apples-for-apples comparison.
A side note on this. Allan Gray and most other fund managers in SA do not compare themselves to index benchmarks in their analysis, probably because it wouldn’t help their marketing. They almost always use a benchmark that aggregates the performance of all active fund managers in its relevant category, excluding their own funds. In the case of the Allan Gray Equity Fund, the benchmark according to the fund is “South African – Equity – General category (excluding Allan Gray funds)”.
The full scorecard
Active managers promote the use of skill to grow the client’s capital at a rate faster than their rivals, benchmark, or comparative market, but the evidence has consistently been against them when comparing them to passive indices.
Percentage of equity funds that under-performed the index (as at 31 Dec 2020):
SPIVA’s latest evidence shows that by rather investing your money in an ETF product that tracks (replicates) the performance of the relevant index in each region you would have performed better than 83% of all fund managers over the past five years. In South Africa, it’s 94%.
A truer reflection of the skill of an active fund/investment manager would be if those who are outperforming the index are doing so consistently. But further evidence suggests that it is very unlikely that active managers can do so over multiple periods.
The index benchmark chosen by S&P for each region represents the majority of the investable market in that region. There is an important final lesson here which going back to my suggestions is to buy as far-reaching an ETF as possible. The more of the investable world it covers, the better. Niche indexes with fancy weighting or specific sectors are only a way to make passive investing more active. Buy the whole market and let time put you in the 80th percentile of investment performance.
SPIVA About: https://www.spglobal.com/spdji/en/spiva/#/about
SPIVA statistics and reports: https://www.spglobal.com/spdji/en/spiva/#/reports/regions