Sunday, July 10, 2011

How Vanguard came to start the first index mutual fund

In 1970, there were 355 equity mutual funds, and we have now had more than three decades over which to measure their success. We’re first confronted with an astonishing—and important—revelation: Only 147 funds survived the period. Fully 208 of those funds vanished from the scene, an astonishing 60% failure rate.

Now let’s look at the records of the survivors—doubtless the superior funds of the initial group. Yet fully 104 of them fell short of the 11.3% average annual return achieved by the unmanaged S&P 500 Index. Just 43 funds that exceeded the index return. If, reasonably enough, we describe a return that comes within plus or minus a single percentage point of the market as statistical noise, 52 of the surviving funds provided a return roughly equivalent to that of the market. A total of 72 funds, then, were clear losers (i.e., by more than a percentage point), with only 23 clear winners above that threshold.

If we widen the “noise” threshold to plus or minus two percentage points, we find that 43 of the 50 funds outside that range were inferior and only seven superior — a tiny 2% of the 355 funds that began the period.

[via roberts1001, 3/10/10]

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