It has been talked about endlessly that low cost index funds outperform about three quarters of actively managed funds over the long term.
The reason being, you guessed it, because of the low cost. It is very difficult to make up for the cost difference in superior returns for the active fund managers.
But one other benefit that I see from low cost index investing, that is rarely talked about, is human behaviour. And I think this is as important, if not more so, than low fees.
For example, just because a low cost index fund returns 7% after fees and tax over your investing time frame, doesn’t mean YOUR returns will be 7%.
7% is the fund return. Now, if you stayed invested (dollar cost averaging aside) for that entire time frame, then 7% would also be your return too.
But so many of us don’t stay invested. We go in and out of the market for various reasons. Whether we are trying to time the next big thing, or we have an unexpected expense we need to fund, or an opportunity comes up somewhere else where we need to liquidate our assets, or we are scared of all time highs and sell out. Whatever your reason, of which there are many, we often trade in and out of markets.
index investors are far less likely to sabotage their own investments
My point being is that when we are invested in low cost index funds, this is much less likely in my opinion. There is far less tinkering. Index funds lend themselves to someone being happy with the fact that there will be winners and there will be losers.
Investors who choose actively managed funds or their own stocks, are far more likely to trade in and out trying to time the market and hit the winners.
There is so much talk of cost being the biggest impact on your returns, but I would argue it is our behaviours that are far more important. Weaving in and out of markets and stocks is likely to have a far greater impact towards under performance than fees.
Your funds may perform as well as the market, but you might not.
To read more on how your behaviours can affect your performance, read this article here.
On top of this, there are some providers in New Zealand that encourage active investing by their shiny apps and constant emails and alerts, reminding you of your holdings and trends. These fund managers are incentivised (paid more) if you trade more frequently. They want you thinking about stocks. They want you talking about stocks. They want you trading stocks. But none of them warn you about the dangers of constant tinkering. Their incentives are not aligned with your best interests.
The best investment platforms, in my opinion, for long term investing, are the ones without the constant barrage of emails or alerts. Doing nothing is underrated.
It is the investing version of Ulysses being tied to the mast.
The more difficult we make things for ourselves to access, the more we will be able to resist temptation. Because our own worst enemy when it comes to investing is not high fees. It is ourselves. With fees and correct asset allocation coming in close behind.
If you need an investment plan or recommendations , then get in touch today.
The information contained on this site is the opinion of the individual author(s) based on their personal opinions, observation, research, and years of experience. The information offered by this website is general education only and is not meant to be taken as individualised financial advice, legal advice, tax advice, or any other kind of advice. You can read more of my disclaimer here