Given the expanded timeframe in the last 30 years the S&P500 went from about 100 to 1200 now. The worst time I see in the DJIA from 1900 is 30 years from 1902 to 1932 (with the stock market crash and the Great Depression), which actually results in a loss.

Now detailed investing talk would not make sense on your blog. Alternative living, human footprint on the world, DIY projects, expenses, psychology — that all goes with your ERE/global resources philosophy. Sandwiching technical talk about about stocks and bonds just does not fit. Hence, I’d say it’s better not to even talk about investing other than in the most general terms.

Professionals may be better informed, but individuals have a size advantage in small cap. They can buy and sell without moving the price. Someone needing to invest $10 mil don’t have that advantage. Professionals also have a risk-bias because they depend on their salary which is determined by quarter-like performance relative to other money managers rather than long-term performance. This leads to a certain herd-like behavior. Better informed doesn’t necessarily mean being right.

The easiest first step for the masses is to actually SAVE money. ERE strategy is a winner here and it doesn’t matter whether you use index funds or not.

I’m not a fan of index funds because:

1) they buy & hold stocks that aren’t worth owning simply because they’re in the index

Example: Expensive BP floating rig catches fire… not a big deal in the industry until it tips over and sinks. Once that happens, you KNOW BP stock is going down, so why not sell it ASAP? Nope, the index fund has to continue holding it because it’s in the index.

2) they have to deal with investors hopping in and out of the fund, thus setting up random buy & sell moments

Example: In a widespread liquidity or unemployment crisis like we recently had, people are getting out of the index fund not only because they’re fearful, but also because they may simply need money. Which creates a positive feedback loop on the fearful part because the investment is losing value.

So well put Jacob. I’ve always been suspicious of this strategy for just this reason. It’s only the long term bull runs that give this and other buy-and-hold schemes their validity. But then nearly all investment strategies work when the market rises for years on end. Guru’s and investment “geniuses” spring up along the way.

Jacob, you’re idea of investing in dividend stocks is the way of the wealthy. They don’t buy fads or funds, they buy cash flows–that’s where the long term money is (including Buffet). It stacks the deck in your favor no matter what the market is doing.

As to index funds–and most funds in general–they have their proper place. Like when the market tanks as it did in 87, 00-02 and 07-09. When the selling stops, they can provide an easy way to get back on the elevator for the ride up and to do it without any management or stock picking needed.

I think the limitation with all funds and most long term investment strategies is that they oversimplify investing. They try to make it out to be a fire-and-forget process, which it can’t be. Anything that’s that easy, that guaranteed, carries no risk, and therefore no corresponding greater reward.

The attraction of index funds, dollar cost averaging, etc, is that they make for neat marketing content because they appeal to the unsophisiticated (read: non-investment savvy) masses who want to get rich without doing anything. BTW, if anyone finds a way to do this, email me (PLEASE!).

All a hedge or mutual fund manager has to do is read your “brilliant” strategy as described on this website and duplicate it and voila! He beats the market averages, investors flock to the fund, and he gets a huge bonus. The world of investing has no barriers to entry and is extremely competitive. “Brilliant” strategies don’t last for long, especially when they are advertised.

Beating the market over the long-run is a different story, because fund managers can’t just sit around in bonds for 10 years or so when the market is overpriced. They’d be fired or lose their clients long before the 10 years was up. Individuals can, and the smarter individuals did back in 1999. But the US market cap alone is $15 trillion and there simply aren’t enough of such long-term oriented individuals to push they market down.

In other words, the intelligent thing to do is buy index funds when they are fairly priced (because the market IS relative-value efficient in the short to medium run due to extreme competition) and switch into bonds or cash when these index funds get overpriced (due to periodic irrational exuberance by the masses).

In the long run, the average investor must get the average return, and this average return must equal the marginal cost of capital, which is the return necessary to induce savers to invest one more dollar into the stock market (via IPOs and other primary sales, since the secondary market does not involve new investment), which is probably about 5%/year after inflation (3% risk premium over the 2%/year from long-term TIPS). For you to get more than 5%/year, someone else has to get less. Who are these dummies? Why aren’t the hedge funds picking them off before you?

I think you need to read “Fooled by Randomness” by Nassim Taleb.

But how many of us have the knowledge, skill and time to pick stocks successfully?

Index investing isn’t meant to be a superior method for everyone. But Index investing is a sure fire way to easily diversify and capture an average market return. It still is.

There may be better alternatives for people with more time and skill but that doesn’t mean index investing suddenly became flawed since the market took a dive.

Jim

You can get most of the random chance out of the system by owning 15-20 stocks. You don’t need to own 500.

It is a statistical fact that low P/B, high P/D, or low P/E stocks do better than average stocks. It is also a statistical fact that when the market has the opposite values of those, it will tend to do poorly. This is not timing, rather it’s simply avoiding batting when the odds are bad.

Not that much much.

In 2007 there was $373 billion invested in Index Mutual Funds. There is $12 Trillion invested in Mutual Funds total.

So Index funds represent 3% of the total for mutual funds.

Theres another $629 billion in ETFs of various types. Thats about 5% of whats in Mutual funds entirely.

Source:
http://www.icifactbook.org/index.html

Jim

Index investing is simple and easy. It has high diversity and gives average rates of return for the market. Sure you can feasibly do much better if you pick the right stocks, but you can also do horribly if you pick the wrong stocks. If you don’t like index investing then what is your preferred alternative and WHY?

I really don’t see ANY reason dollar cost averaging is a bad idea. It averages out the ups and downs in a volatile market. DCA just keeps you from having bad luck or avoiding the trap of thinking you can time the market. If you don’t like DCA then whats your alternative solution and WHY is it better? Steve mentioned Value averaging above which is one reasonably good alternative.

Jim

@kevin – As far as I know, it is mostly big institutions that does most of the buying and selling.