Index Funds and The Quest for Simple

We have all heard of the KISS principle. Keep It Simple Stupid. When it comes to investing this is a slogan almost exclusively used by salesman trying to sell you actively managed mutual funds.

You get simple but you also pay for it. Questrade has a long running series of commercials with customers questioning the high mutual fund fees they are paying.

The point is as they bleed money from high costs, the only one getting richer is the salesman and the mutual fund company. Open an account at Questrade and save money. They don't tell you what to buy just that you need to open an account.

When I was a simple investor in the 80's I was really into mutual funds. I had no idea what I was paying in fees to own them. Shit, I didn't think I was paying anything at all until I started reading about ETFs and started to give a shit about who was making money off my back. Enter Index Funds.

What is an Index Fund?

These are investment products that are passively managed. A traditional mutual fund is a product where some random dude/dudette picks individual stocks. The index fund doesn't try and be the smartest kid in class but rather mimic the performance of a given index.

They can do some of these things for you;

• track the performance of the whole TSX or S&P 500
• invest in specific sectors like health care, pharmaceuticals or tech
• track any international market
• track a bond market
• use your imagination as they can track anything

Active Usually Loses Against Passive

The goal of active managers is to beat whatever index it is they track. Most of these managers over 80% never accomplish this goal. To suck at what they do they pass the cost on to you. That's why the Questrade ads are so popular.

The point is if most managers are losers then why are you not in an index fund? They are a cheaper option and the odds are in your favour that you will at least make whatever the index gives you. This is where most people should be invested.

Index funds are the ideal place for most investors because;

• they are much cheaper to own
• you will at least make the return of the index
• you can own the whole world of stocks and bonds
• you will soon realize that you are not above average

What About the Hot Stuff?

Never chase the fund that outperforms in any given year and is running hot. I remember books in the 80's called the 'Heavy Hitters' by Rand Chang. They always kept on top of what were the hot funds sector by sector.

This is bullshit. You can't replicate the performance of the past. In fact, study after study shows that almost all of these funds never beat their index so jumping in and out of the ones that do is also a recipe for disaster.

The best plan of attack is to own the one that costs the least. The fund that takes less of your flesh with it. It will outperform, the math proves it out. 

You can buy an all world ETF for 0.10% (XAW). Now, that's cheap when you consider all the stocks you will own. Question is, do you want to and should you? It's a personal choice.

It's also a lot better than owning a mutual fund charging 2.5%. You are already up by 2.4% a year by just owning the cheaper option. Why would you not do this?

KISS Summary

To me if you are going to be in this space then, the quest for simple starts with low cost index funds. Why?

• time after time year after year they outperform their ugly sister mutual funds
• past performance means nothing against the backdrop of future returns
• costs matter so always check the expense ratio of any fund you purchase that is in the same category
• always choose funds that fit your comfort zone and risk profile
• choose funds that have a low turnover rate and are broadly divesified

Related Post: Using ETFs for Dividend Investing

Recommended Reading: Investing Made Simple