Quirky imagery works well when explaining concepts to kids. Based on my experience as a high school personal finance teacher, the more ridiculous the better. So, what do index fund managers do all day? They work from hammocks like chilled hippies – if you ask my students.
Accurately tracking an index requires skill. But active fund managers burn more cranial calories. After all, index fund managers don't scrutinize the quality of a company's reported earnings. Nor do they wrap their heads around projecting future cash flow. They don't measure the robustness of balance sheets, nor do they wrestle over whether a stock is undervalued or overvalued. And because they do none of those things, index funds charge lower investment costs.
With TD Asset Management's wide range of mutual funds, it's easy to imagine an in-house contest between the driving efforts of the active managers and the passive index practitioners. They butt heads in seven broad categories with 10-year track records: Canadian Equity, U.S. Equity, International Equity, Canadian Bond, Canadian Balanced, Japanese Equity and European Equity.
TD has two broad Canadian equity funds that qualify: their TD Canadian Equity and their Canadian Blue Chip Equity fund. Costing 2.18 per cent and 2.41 per cent respectively, their combined average 10-year return was 5.99 per cent. TD's e-Series Canadian index fund, however, rode the waves to winning returns. Costing just 0.33 per cent, it averaged 7.32 per cent for the decade.
In the broad Canadian bond category, TD's active managers toiled again in vain. TD's Canadian Bond Fund is the company's sole category representative for the decade. It earned 4.4 per cent, after fund costs of 1.11 per cent. TD's cheaper e-Series Bond Fund earned a smooth 4.7 per cent return, after charging 0.5 per cent.
Just one actively managed TD contender carries a 10-year international equity track record. Their Global Growth Fund, costing 2.55 per cent, averaged 3.6 per cent for the decade. Company bragging rights, once again, go to the hammock loungers. TD's e-Series International Index averaged 4.13 per cent, after costing 0.51 per cent.
Broad U.S. equity fund managers did better, but still underperformed their less energetic colleagues. The company's active torchbearers managed the U.S. Blue Chip Fund and their U.S. Quantitative Equity Fund. Combined annual returns averaged 4.16 per cent, after costing 2.55 and 1.6 per cent respectively. TD's e-Series U.S. index edged them out, earning 4.17 per cent after charging 0.35 per cent.
The absences of low cost e-Series indexes in the remaining three categories mean TD's active managers had easier targets. Carrying the indexing flags instead are the I-Series funds. While costing more than their e-Series counterparts, their passive aggression still triumphed. TD has two actively managed balanced funds with decade track records, including their Balanced Growth and Balanced Income Fund. They earned a combined 10-year average of 3.79 per cent after costing 2.3 per cent. TD's I-Series Balanced Index walloped them. Despite charging 0.89 per cent, it earned 5.21 per cent.
Many proponents of active management claim clever traders can capitalize in lacklustre markets, while those settling for market returns flounder. So how did TD's active managers do with the sluggish Japanese market? TD's Japanese Growth Fund managers eked 0.11 per cent gains per year for the decade, after costs of 2.83 per cent. Meanwhile, the company's I-Series Japanese Index earned 0.71 per cent after charging 1.06 per cent.
Completing the perfect index-winning sweep, TD's European Index also beat its actively managed counterpart. TD's European Growth Fund averaged 3.13 per cent after charging 2.82 per cent. The I-Series European Index earned 4.05 per cent after costing 1.04 per cent.
Be careful, however, before condemning TD's actively managed funds in favour of active products from another firm. Promotion is a huge part of the mutual fund industry. If a fund is doing poorly, a company can merge it with another fund or change its name to obliterate its track record. According to SPIVA (Standard & Poor's index versus active) Canada, nearly 42 per cent of Canada's active U.S. equity funds mysteriously disappeared during the five years ended June 30, 2013. Nearly one third of Canadian and international equity funds were buried in the desert during the same time period.
Such data require an even healthier dose of skepticism when comparing actively managed funds. Investors are better off building diversified portfolios of index funds. After doing so, they can ignore the markets, while chilling out in their own hammocks.
TD’s surviving actively managed funds vs. TD’s index funds:
Jan. 31, 2004 – Jan. 31, 2014
|Broad Canadian Equity
|Broad Canadian Bond
|Average Annual Return
|Decade Cumulative Return