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We Eat Dollar Weighted Returns — III

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Somebody notify the Bogleheads, they will like this one, or at least Jack will.  Yo, Jack, I met you over 15 years ago at a Philadelphia Financial Analysts Society meeting.

How bad are individual investors  at investing?  Bad, very bad.  But what if we limit it to a passive vehicle like the Grandaddy of all ETFs, the S&P 500 Spider [SPY]?  Should be better, right?

I remember a study done by Morningstar, where the difference between Time and Dollar-weighted returns was 3%/year on the S&P 500 open end fund for Vanguard, 1996-2006.

But here’s the result for the S&P 500 Spider, January 1993- September 2011.  Time-weighted return: 7.09%/year.  Dollar-weighted: 0.01%/yr.  Gap: 7%/yr+

Why so much worse than the open-end fund?  Easy.  Unlike the professional managers at Vanguard, and the relatively long term investors they attract, the retail short term traders of SPY trade badly; they arrive late, and leave late on average.

There is far more analysis to be done here, but to me, this confirms that Jack Bogle was right, and ETFs would be a net harm to retail investors.  The freedom to trade harms average investors, and maybe a lot of professionals as well.  It may also indicate that short-term trading as practiced by technicians may underperform in aggregate.  Not sure about that, but the conclusion is tempting.

One thing I will say: I am certain that profitable trading is not easy.  If you are tempted to trade for a living, the answer is probably don’t.

Anyway, here’s my spreadsheet on the topic:

 

Full disclosure: I have a few clients short SPY, hedged against my long positions.

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David Merkel

David Merkel

2010-present, David is working on setting up his own equity asset management shop, tentatively called Aleph Investments. From 2008-2010, he was the Chief Economist and Director of Research of Finacorp Securities. He did many things for Finacorp, mainly research and analysis on a wide variety of fixed income and equity securities, and trading strategies. Until 2007, he was a senior investment analyst at Hovde Capital, responsible for analysis and valuation of investment opportunities for the FIP funds, particularly of companies in the insurance industry. He also managed the internal profit sharing and charitable endowment monies of the firm. From 2003-2007, he was a leading commentator at the investment website RealMoney.com. His background as a life actuary has given him a different perspective on investing. How do you earn money without taking undue risk? How do you convey ideas about investing while showing a proper level of uncertainty on the likelihood of success? How do the various markets fit together, telling us us a broader story than any single piece? These are the themes that he deals with in this blog. All of these goals rely on the help of Jesus Christ and his readers.
David Merkel

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