The enduring strength of Index Funds and fallacy of active investing

The demise of Neil Woodford has been coming for a long time and has ended in a bloody nose for the active investment fund management sector. As long been explained by investing legends such as Vanguard’s John Bogle and Warren Buffett, investing using index funds is the only sensible way to go for most people.

Tough time for active investment funds

Active investing is going through a roller coaster ride which started when investors holding the Woodford Equity Income Fund were locked out of their assets. Things did not feel right and it was not a surprise when a few months later it was announced that trading the fund would be shut down. It was a shock for those who did not take time to educate themselves sufficiently about investing, rather deciding to go with the “British Warren Buffett”.

When this active fund was set up in 2015, I was still a novice at investing and followed the hype, buying some shares as part of my portfolio. However, within months I switched the shares to passive tracker funds, taking in the advice gleaned from books such as A Random Walk on Wall Street by Burton Malkiel. This was fortunate, as people who remained in the active Woodford fund have made huge losses.

Performance of the actively managed Woodford fund is shown in the chart below. In this relatively short period the passive FTSE All Share Tracker outperformed both the active fund and all funds within its category.

Woodford Equity Income Fund Performance (Morningstar UK)

Woodford Equity Income Fund Performance (Morningstar UK)

Focus in Costs

Achieving Financial Independence would already be impeded by the very high fees charged by active fund managers (0.75% per year in this case) compared to passive tracker funds which can be as low 0.06% – 13 times lower! This can easily run into hundreds of thousands of pounds over an investing lifetime. Additionally, it is highly unlikely to identify a star fund manager who can beat the market consistently over the long term.

Vanguard is leading the way by cutting costs while active managers are raking in millions for underperformance.

Performance is further degraded by frictional costs due to the frequent trading by active managers; typically selling when prices are low and buying when they are up.  

Low information diet

It is best to not succumb to the heavy marketing from the City and have a low information diet. Talk about asking the barber for a haircut, and getting a bad one at that.

As active fund managers are experiencing vey high outflows in the wake of the Woodford scandal, it is not a coincidence that the S&P 500 index has almost crossed over its all time high. Diligent long term passive investors will be disciplined and not worried about all these shannanigans.

This episode proves what has been outlined time and again on this and other platforms which seek to educate about the benefits of investing in index funds.

Time in the market works, rather than Timing the market. Financial education and staying the course are key to long term success.

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