Sunday, December 21, 2008

Which is better? An Index Fund Portfolio or An Actively Managed Fund Portfolio?

Suppose you'd like a very simple 60/40 stock/bond allocation and would like to use no-load funds such as those from Vanguard to build your portfolio, you could have the following choices:

(1) Portfolio 1: 60/40 stock/bond allocation, indexing


Vanguard Total Stock Market Index (VTSMX) 60%
Vanguard Total Bond Market Index (VBMFX) 40%

(2) Portfolio 2: 60/40 stock/bond allocation, actively managed

Vanguard Wellington (VWELX) 100%

The Total Stock Market Index Fund invests in more than 3,000 large stocks representive of the whole US stock market. It's expense ratio is 0.15%. The Total Bond Market Index Fund invests in more than 3,000 bonds representive of the broad US invesetment-grade bond market. It's expense ratio is 0.19%. The Wellington fund is a balanced fund containing 2/3 of fairly large, well known stocks and 1/3 of high quality US bonds. The fund assets are currently invested in 109 stocks and 461 bonds as of 11/30/08. It's expense ratio is 0.27%.

The table below lists the yearly performance data of these funds starting from 1998 (data from Vanguard.com):


(click on the table to view data)




After 10+ years and have experienced two bear markets, where do the portfolios stand today? Here are the back-test results if you put $10,000 each into Portfolio 1 and Portfolio 2 at the end of 1997.





(click on the table to view data)



Conclusion:

The total return (as of 12/18/2008) of the actively managed portfolio (Portfolio 2) with a single balanced fund (Vanguard Wellington fund) is 77.82%, compared to a return of 46.27% for the indexing portfolio (Portfolio 1) with 60% of Total Stock Market Index and 40% ofTotal Bond Market Index . In this case, the 31.55% higher return from the Wellington fund is much better than that of the indexing portfolio.








(click on the table to view data)







Related Posts:

Lazy Portfolios (1): A 10 year Performance Comparison
Lazy Portfolios (2): Risk Analysis
Lazy Portfolios (3): Surprise, Surprise, the total bond portfolio beats them all