In this episode of Enrich Your Future, Andrew and Larry Swedroe discuss Larry’s new book, Enrich Your Future: The Keys to Successful Investing. In this series, they discuss Chapter 10: When Even the Best Aren’t Likely to Win the Game.

LEARNING: Refrain from the futile pursuit of trying to beat the market.

“Only play the game of active management if you can truly identify an advantage you have, like inside information, but you have to be careful because it’s illegal to trade on it. Also, play only if you place a very high value on the entertainment.”

Larry Swedroe

In this episode of Enrich Your Future, Andrew and Larry Swedroe discuss Larry’s new book, Enrich Your Future: The Keys to Successful Investing. The book is a collection of stories that Larry has developed over 30 years as the head of financial and economic research at Buckingham Wealth Partners to help investors. You can learn more about Larry’s Worst Investment Ever story on Ep645: Beware of Idiosyncratic Risks.

Larry deeply understands the world of academic research and investing, especially risk. Today, Andrew and Larry discuss Chapter 10: When Even the Best Aren’t Likely to Win the Game.

Chapter 10: When Even the Best Aren’t Likely to Win the Game

In this chapter, Larry illustrates why individual investors should refrain from the futile pursuit of trying to beat the market.

It seems logical to believe that if anyone could beat the market, it would be the pension plans of the largest U.S. companies. Larry lists a few reasons this is a reasonable assumption:

1. These pension plans control large sums of money. They have access to the best and brightest portfolio managers, each clamoring to manage the billions of dollars in these plans (and earn hefty fees). Pension plans can also invest with managers that most individuals don’t have access to because they don’t have sufficient assets to meet the minimums of these superstar managers.
2. Pension plans always hire managers with a track record of outperforming their benchmarks or, at the very least, matching them. Not the ones with a record of underperformance.
3. Additionally, pension plans will always choose the manager who makes an excellent presentation, explaining why they succeeded and would continue to succeed.
4. Many, if not the majority, of these pension plans hire professional consultants such as Frank Russell, SEI, and Goldman Sachs to help them perform due diligence in interviewing, screening, and ultimately selecting the very best of the best. These consultants have considered every conceivable screen to find the best fund managers, such as performance records, management tenure, depth of staff, consistency of performance (to make sure that a long-term record is not the result of one or two lucky years), performance in bear markets, consistency of implementation of strategy, turnover, costs, etc. It is unlikely that there is something that you or your financial advisor would think of that they had not already considered.
5. As individuals, we rarely have the luxury of personally interviewing money managers and performing as thorough a due diligence as these consultants. We generally do not have professionals helping us avoid mistakes in the process.
6. The fees they pay for active management are typically lower than the fees individual investors pay.

So, how good are these pension funds at beating the market?

So, how have the pension plans done in their quest to find the few managers that will persistently beat their benchmark? The evidence is compelling that they should have “taken par.” For example, Richard Ennis’s 2020 study found that public pension plans underperformed their benchmark return by 0.99%, and the endowments underperformed by 1.59%. He also found that of the 46 public pension plans he studied, just one generated statistically significant alpha, compared to the 17 that generated statistically significant negative alphas.

According to the study, the likelihood of underperforming over a decade is 98%.

Another researcher, Charles Ellis, declared that active investing is a loser’s game that is possible to win, but the odds of doing so are so poor that it isn’t prudent to try. In Larry’s opinion, it would be imprudent for you to try to succeed if institutional investors, with far greater resources than you (or your broker or financial advisor), fail with great persistence. This should make you feel cautious and less likely to take unnecessary risks.

Wall Street needs you to play the game of active investing

According to Larry, Wall Street needs and wants you to play the game of active investing. They need you to try to beat par. They know that your odds of success are so low that it is not in your interest to play. But they need you to play so that they (not you) make the most money. They make it by charging high fees for active management that persistently delivers poor performance.

Larry insists that the only logical reason to play the game of active investing is that you place a high entertainment value on the effort. For some people, there might be another reason—they enjoy the bragging rights if they win. Of course, you rarely, if ever, hear when they lose. Investing, however, was never meant to be exciting. Wall Street and the media created that myth. Instead, it is intended to provide you with the greatest odds of achieving your financial and life goals with the least risk. That is what differentiates investing from speculating (gambling).

Further reading

1. Richard Ennis, Institutional Investment Strategy and Manager Choice: A Critique,” Journal of Portfolio Management (Fund Manager Selection, 2020, 46 (5).

Did you miss out on the previous chapters? Check them out:

• Enrich Your Future 01: The Determinants of the Risk and Return of Stocks and Bonds
• Enrich Your Future 02: How Markets Set Prices
• Enrich Your Future 03: Persistence of Performance: Athletes Versus Investment Managers
• Enrich Your Future 04: Why Is Persistent Outperformance So Hard to Find?
• Enrich Your Future 05: Great Companies Do Not Make High-Return Investments
• Enrich Your Future 06: Market Efficiency and the Case of Pete Rose
• Enrich Your Future 07: The Value of Security Analysis
• Enrich Your Future 08: High Economic Growth Doesn’t Always Mean High Stock Market Return
• Enrich Your Future 09: The Fed Model and the Money Illusion

About Larry Swedroe

Larry Swedroe was head of financial and economic research at Buckingham Wealth Partners. Since joining the firm in 1996, Larry has spent his time, talent, and energy educating investors on the benefits of evidence-based investing with an enthusiasm few can match.

Larry was among the first authors to publish a book that explained the science of investing in layman’s terms, “The Only Guide to a Winning Investment Strategy You’ll Ever Need.” He has authored or co-authored 18 books.

Larry’s dedication to helping others has made him a sought-after national speaker. He has made appearances on national television on various outlets.

Larry is a prolific writer, regularly contributing to multiple outlets, including AlphaArchitect, Advisor Perspectives, and Wealth Management.

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