The conclusion we can draw is that it makes no difference which index we use as a benchmark for active managers—the majority fail to outperform. Another conclusion we can take away from these comparisons is that a lot of smart people at the S&P committee appear to be wasting lots of time that could be spent on more productive endeavors.
Jeremy Siegel, professor of finance at the Wharton School of the University of Pennsylvania, provided us with further evidence supporting this conclusion. In a study, Siegel found that the more than 900 new firms added to the index since it was formulated in 1957 had, on average, underperformed the original 500 firms in the index.
Continually replenishing the index with new, faster-growing firms while removing the older, slower-growing firms lowered returns to investors. In other words, the committee’s efforts were counterproductive—investors would have been better off had they bought the original S&P 500 firms in 1957 and never made any changes to their portfolio.
Since the S&P 500 outperformed the majority of mutual funds during this period, buy-and-never-sell investors would have done better than most mutual funds and professional money managers over the last 48 years. That’s quite a feat to accomplish with no effort whatsoever. And these results would have been achieved with far greater tax efficiency.
Even more importantly—since these buy-and-never-sell investors would not have expended any effort trying to pick stocks, time the market or identify superstar managers—they would have had more time to enjoy the really important things in life.
The bottom line is that Faber’s point about the S&P 500 not being a truly passive vehicle is totally irrelevant to whether active management is likely to be the winning strategy. In fact, it could be argued that the lack of any outperformance by the S&P 500 relative to purely passive benchmarks, such as the Russell and CRSP indices, makes the case for passive investing.
Larry Swedroe is the director of research for the BAM Alliance, a community of more than 130 independent registered investment advisors throughout the country.