Most investment managers fail to beat the market over long term

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Our investing behaviour is far more interesting, complex and mysterious than investing itself. It defies logic in a way that shows we are not programmed to be good investors.

Perhaps we are too programmed to be good investors. We are looking for a number that is exact and conveys the truth. Truth directs us to act in a certain way.

We grocery shop with the ability to determine from product labels if, based on our dietary needs, that food product is right for us.

When hiring a new employee we study applicants’ résumés looking for certain skills. The expectation from the chosen candidate is that those documented skills on the résumé will be demonstrated on the job. That is a reasonable assumption, and that is how things usually work.

A friend of ours one year is likely to be a friend the next year. People are generally predictable in their behaviour so what we experience one year is what we get the next year.

A world of predictability is what we want and that is what we hope for in the future. In theory that is often correct; however, with investing it is anything but the truth.

Short-term term investing performance results are random. We can have twenty business school degrees and be the most intelligent person on the planet, but that changes nothing. Investing in the short-term whether we are a geniuses or not, is just plain and simple random. That is the way it always has been and until valid evidence to the contrary appears, that is how we should expect things to continue.

So put all of the assertions on what has been written about what is going to be a good investment or not through your shredder. Predictions have no value. Investment outcome is based on luck and not skill.

It can be easy to say that it is true that investment results cannot be accurately predicted, but there are two points proving this.

The first is found in academic research. Scholars study a huge amount of historical investment data. A skilled manager should be able to beat the underlying market in which they invest, but research shows very few actually beat the market over the long term. In fact, the number is so low it can be attributed to chance.

Managers beat the market about one in every three years. Within the two years they do not beat the market, the annual under-performance is larger than the over-performance in the year they do beat the market.

The second form of proof is in examining managers’ investment performance against the underlying market in which they invest. This is done by many organizations including Standard and Poor’s, Morningstar and the University of Chicago.

Regardless of the source, the results are the same and they support the academic research. Managers do not beat the market in the long-term after the cost of management has been considered.

So the cold hard truth of investing is conclusive. Managers do not beat the market. Intellectually that is a fact and it is easy to understand. However, in our real and practical world why do so many intelligent investors ignore 50 years of investment research and investment performance data?

Advising others or making investment decisions for investments held by charities should require intelligent decision-making skills. Why investors select managers with the blind hope they will beat the market is a mystery.

Why do investors ignore the facts and somehow think they will miraculously do something that has yet to be done?

The definition of insanity is doing the same old things and expecting different results. If you always do what you’ve always done, you will always get what you’ve always got.