Active Mismanagement: The Case for Index Funds

Indexing has suffered quite a backlash of late. From pundits proclaiming that "we're in a stock picker's market now" to columnists decrying the active management of the S&P 500, hitching your portfolio to an index seems like folly.

Actually, thinking you can consistently beat the market -- bear or bull -- is where the real folly lies.

It sure would be great if we could rely on active management to provide a little good news in this market. Unfortunately, the value-added that active managers bring -- even in this "stock-picker's" market -- is small to none.

In the first five months of 2002, the average actively managed fund underperformed the relevant Standard & Poor's index in seven of the nine Morningstar categories -- and one of the remaining two essentially tied the index. That's from a just-released study by veteran Vanguard Index fund manager Gus Sauter. (See charts below.) Keep in mind that indexing does not equate with the S&P 500 -- when a small-cap value fund beats the large cap growth-oriented S&P 500, it's irrelevant. ...