A random Walk Down Wall Street: The Time-Tested Strategy for Successful Investing

AND THE WINNER IS…

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It’s now time to see how the findings just discussed actually
perform in practice. If predictable patterns are present and if
mispricings frequently exist, then professional investment
managers clearly ought to be able to use them to beat a simple
index fund. So let’s take a careful look at the results racked up
by professionally managed portfolios.
The Performance of Professional
Investors
For me, the most convincing tests of market efficiency are
direct tests of the ability of professional fund managers to
outperform the market as a whole. Surely, if market prices
were determined by irrational investors and systematically
deviated from rational estimates of the present value of
corporations, and if it was easy to spot predictable patterns
in security returns or anomalous security prices, then
professional fund managers should be able to beat the market.
Direct tests of the actual performance of professionals, who
are richly incentivized to outperform the market, should
represent the most compelling evidence of market efficiency.
A remarkably large body of evidence suggests that

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professional investment managers are not able to outperform
index funds that simply buy and hold the broad stock-market
portfolio. We covered much of this work in chapter 8. For the
twenty years ending December 31, 2009, the average actively
managed large-capitalization mutual fund underperformed the
Standard & Poor’s 500 large-cap index by almost a full
percentage point per year. While the index may not win in
every single year, decade after decade two-thirds or more of
professionally managed funds are beaten by index funds. The
table below shows the performance of all existing U.S. mutual
funds compared with their appropriate benchmarks over the
five years ending in January 2010. For example, funds
specializing in small-company stocks are compared with a
small-cap(italization) index. Whatever the category, actively
managed funds do not beat their benchmarks.