After all, if you just avoided the obvious dogs you’d do better than average, right? Who would be stupid enough to own GM a couple of years ago? Or Ford? Opps. Better forget about Ford. Hindsight is a beautiful and perfect thing.

I even took a major pay cut to join an investment research firm mid-career. There I was surrounded by exceedingly bright people. Each focused on one, maybe two industries and perhaps 6-10 stocks. More than one was honored in the trade press as “Analyst of the Year” for their work.

They knew each of these companies inside and out. They knew the top executives. They knew the middle-managers and the front line people. They knew the customers. They spoke to them weekly.

They didn’t get info before everyone else (that’s insider trading and illegal). But they did know exactly when and how the info would be released, as did every other competent analyst around the world. Any new information was reflected in the stock price within minutes.

They issued reports our institutional investor clients paid dearly for. And yet, predicting stock performance remained frustratingly elusive.

If you’ve worked in a major corporation it is not hard to see why. The CEO and CFO work with internal forecasts from their teams. The process looks something like this:

Salespeople are required to forecast what their customers will spend. Since these buys are rarely locked in far in advance, and can be cancelled anytime, nothing is certain. Add to this all the pending business that may or may not come to fruition and basically you are asking the field salesperson to predict the future. So, of course, they take a guess.

These guesses get passed on to their managers, who now have their own forecasts and decisions to make. Do I take these sales forecasts at face value? Do I adjust them based on knowing Suzy is an optimist and Harry always sees dark clouds? So, of course, they take a guess and pass it on to the next layer of management.

So it goes until all these guesses are consolidated into the nicely packaged budget/forecast binders presented to top management. More often than not, after one look, they’ll say: “This is unacceptable. We can’t present this forecast to Wall Street. Go back and revise these numbers.” Back down the chain it goes. Maybe multiple times, and each time the numbers get a bit further from reality.

Now predicting the future is a dicey proposition for even the most gifted psychics, and they are not burdened with this process.

Suddenly my enormous hubris was clear. Somehow reading a few books and 10ks was going to give me an edge? Over not only the professional analysts who lived a breathed this stuff all day every day, but also the executives that ran the companies in question? I could succeed where they could not?

Suddenly I realized why even rock star fund managers find it almost impossible to best the simple index over time.

There is a reason names like Buffet and Lynch are so revered and well known. There are also reasons more fortunes have been made brokering trades than making them.

That’s why I’m an indexer. If you choose to try to best the averages, God Bless and God Speed. You may well be smarter and more talented than I. You are most certainly likely to be better looking. I’ll look for your name along with Warren and Peter’s in the not too distant future.

I extend the same to all those folks I’ve met in Vegas who assure me they have bested the house. I listen, gaze up at the billion dollar casinos and reflect on how many smarter, more talented and better looking people there are than me.

Obviously, there are individuals that can beat the market in the long-run, Warren Buffet being one of my favorite investors. But over time, I still think most individual investors only perform in certain conditions (like an up market), and the downside risk is great when the market turns against them.

Think of it as a de-pessimizing strategy instead of an optimizing strategy.

I had another 5 years experience prior to that which probably mirrored the S&P 500 (I was getting annual returns of 15-25% in that era), but a home purchase in 1997 gave me an excuse to not keep track of those earlier years in the current records because I now had a mortgage.

Sorry!

“A more costly approach is to study hard. This usually works but not always. … You can become a good manager yourself. You know it can’t be that difficult, when business students can do it! ;-D”

I would say that it is that difficult. That studying and learning about businesses in order to, rather than pass a test, guess how their stocks and dividends will perform during relevant periods, is not only “costly” but much more difficult than learning the (carefully measured) material presented in a college class.

To pick just one issue: whether what’s going now really is different. It’s easy to say that it’s not different this time and that things are cyclical because they’ve always been cyclical in our lifetimes.

But how could we really know for sure that this time it’s not different, even though the entire financial sector is imploding, and with the resulting stricter lending policies, all industries associated with debt, such as the auto and housing industries, are in big trouble? And during the Enron crisis, how could we be sure that this time it’s not different even though we can no longer trust the information we are given? And during the ’70s, how could we be sure that this time it’s not different when no one had ever noticed stagnation and inflation happening at the same time?

There have been times in the past when things were different. The Great Depression. The Black Death. Not to mention the invention of factories, the invention of the computer, and the discovery that clean water was good for your health.

And that’s why index funds make up a large part of my portfolio. I know I’m not smart enough to beat the market, and I sure don’t trust anyone else to be smarter either. (I do also invest in some companies where I have access to additional information either by knowing someone who works there or by being a regular customer.)

Anyway, you’re comparing apples and oranges. One thing is the different performance of indexes, funds, or stocks. Another thing is individual investment behavior. So what you’re comparing above is index buy&hold, which is great when the momentum is sustained upwards with what is probably for the large part a jumping in and out of funds and stocks that looked good last year, which is practically never beneficial during sustained rallies. Now try comparing the index momentum play during a period where it wasn’t favored, like the 1970s when the market was in a trading range … like the index has been since about 2000.

Also George’s comment was something that somehow I’d never thought of, even though it’s plainly obvious and inherent to the whole concept of index investing. I find it hysterically funny to think that anyone who bought into a dow index fund during the past 6 months was investing part of his money in GM!