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Markets
This Week |
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Investment
Idea
Quiz
Our Portfolio
Market Highlights
S&P 500 Charts
TSX Canada Charts
Behavioral Finance Indicators
Answer to the Quiz
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Q: Is it a good idea to buy mutual funds with high MER (Management Expense Ratio)?
A: No, as a general rule. The Globe and Mail has studied US
mutual fund managers over the last decade and concluded that
only 16% of them managed to outperformed the S&P 500 index (more
importantly, they outperformed an index only marginally!). There
is overwhelming evidence that passively managed funds ((indexes
with low MERs) outperform actively managed funds (funds with
high MERs).
Consider the following:
- The equity markets are very efficient, which means that professional money managers find it very difficult to beat an index consistently
- Actively managed funds have higher costs (by 2% on average)
- Passively managed funds allow investors to postpone taxes
In conclusion, buying funds with high MERs makes sense only to brokers who sell them to earn commission.
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When could you consider buying an
actively managed fund (with high MER), despite evidence that
such funds under perform an index?
A) You like the name of the
fund
B) Your neighbor believes it is a sure winner
C) You like their advertising campaign
D) Benefits of diversification by management style
E) The fund has done really well recently
Answer to the Quiz
at the bottom of the document
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(%)
Since inception, S&P 500 has outperformed
our passive and conservative 60/40 portfolio by 1.72%.
Still, our portfolio realized a lower volatility and a respectable
4.98% return.
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- Feb 25 ‚ March 3, 2006
- This week, the market tried again and could not break through
the resistance barrier set on Jan. 11, 2006. We continue to
believe that equities will not be able to break into a sustainable
higher level in the short term
(Charts 2 ‚ 5).
- The European Central bank raised its key interest rate to
2.5% due to the strong momentum of the Euro economy.
- The assets of the US Exchange-traded Funds (ETFs) broke
through the $300 billion. The ETFs have experienced tremendous
growth since 2002 when their asset stood at $82 billion. The
ETFs are one of the best instruments for individual investors
due to their cost and tax efficiency.
- In 2005, the average home in the US appreciated by 12.95%.
However, the signs are emerging that the real estate market
is ready for a sizeable downturn (although real estate agents
are starting to call it "buyers' market").
- Mutual funds that resemble hedge funds (i.e. market neutral
with long-short positions) are gaining popularity in the US.
Despite their higher fees, investors view them as safer than
hedge funds due to the tight mutual fund regulations.
- Since the beginning of 2004, the US equities have traded
in a narrowing tunnel (Chart 6). We expect that the narrowing
of the range will soon lead to a significant breakout which
can set a stage for a new trend.
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Charts 2 - 3. 10 Years and Last 10
Days
 
Charts courtesy of StockCharts.com
Charts 4 - 5. 10 Years and Last 10
Days
 
Charts courtesy of StockCharts.com
Chart 6. S&P 500 Narrows the Range
Charts courtesy of StockCharts.com
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(see
explanation)
In the last week, equities attempted
to rally several times. They failed to pass the resistance level
of January 11, 2006. Usually, when the market cannot go up, it
comes down. (Please keep in mind that buy-and-hold, long-term
investors are better off without trying to time the short-term
market up and down moves).
Our three favorite indicators show that the high of January 2006
resembles August 2005:
Chart 7 - divergence between prices (went up) and advancing/declining line (flat)
Chart 8 - high degree of optimism by small investors as represented by AAII
Chart 9 - confidence exhibited by equity option buyers who tend to reliably wrong at important market junctures
at important market junctures
Charts courtesy of StockCharts.com
and DecisionPoint.com
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D is correct.
If the great majority of your portfolio is already invested in low cost, passively managed instruments, one could make an argument for potential benefits of diversification by management style.
N.B. Actively managed funds do poorly in efficient markets (e.g.
US and Canada), but have a better performance in less efficient
markets (e.g. the emerging countries). Hence, an argument could
be made that money managers are able to add value if they invest
in less efficient markets.
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This Week.
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