Can Your Mutual Funds Beat the Stock Market?

  • 21
  •  
  • 1
  •  
  •  
    22
    Shares

Mutual Funds absolutely soared last year. I mean c’mon, take a look at the growth on these funds:

Isn’t that just insane??!!

The overall S&P 500 (an index of the top 500 companies in America) had a record year too, but it “only” increased by 20%.

So the analysis is simple, right? “Can your mutual funds beat the stock market?” Well of course! There are three mutual funds listed above that killed the S&P! Buuuuut, not so fast. Just because these 3 mutual funds beat the market doesn’t mean that you can pick which ones will be winners before the year begins. No one has a crystal ball – not even the professionals can accurately predict which mutual funds will beat the market year in and year out.

So is it even possible? Or should we all just be investing in index funds that follow the overall ebb and flow of the stock market? This is what I’m hoping to find out, and I bet you’d like to know too!!

Can Your Mutual Funds Beat the Stock Market?

mutual funds beat the stock market

Over the past 2-3 years, I’ve followed two finance guys pretty religiously:

  • Andrew Hallam, and
  • Dave Ramsey

 

Andrew is known for his book, “Millionaire Teacher“, where he basically “proves” that mutual funds as a whole never beat the general stock market, and we’re all better off to just invest in low-cost index funds. It’s easier, more effective, and it’s all-in-all fool proof. He should know – he has become a millionaire through his simple investments….on a teacher’s salary.

Mr. Ramsey is a well-known get out of debt guy (which I wholeheartedly agree with), and he promotes investing into just two areas – real estate and mutual funds. With a very simple mutual fund strategy, Dave boasts that almost anyone can beat the stock market.

So here we have it. Two intelligent individuals on the opposite ends of the investment spectrum. Let’s see if we can prove one of them right and the other one dead wrong.

Back to the Basics – What is a Mutual Fund?

For those of you that are completely lost at this moment, let’s just take a step back and explain what a mutual fund is.

Put simply, a mutual fund is just a bunch of stocks put into one single fund. So, instead of buying 15 different stocks (and paying 15 different transaction fees), you could just buy one mutual fund that is invested in those 15 stocks. Same thing, but much easier and much more affordable.

There are mutual funds for pretty much everything:

  • Real estate
  • Restaurants
  • International
  • Retail
  • Tech businesses
  • Small companies

The list could really go on and on. There are thousands of mutual funds out there to choose from.

And actually, an Index Fund is actually a mutual fund too (it invests in many different stocks as well), but instead of targeting a particular sector of the market like we mentioned above, an Index Fund is invested in the very same companies as the index it’s modeled after. For instance, the S&P 500 is an index that shows the overall growth or decline of the 500 top companies in America. An S&P Index fund purchases stocks of those 500 companies and grows or declines exactly like the index we see every day on TV. This is a fantastic, low cost way to invest in the general stock market.

The Analysis – The S&P 500 vs. Mutual Funds

I keep hearing this question over and over again – from podcasts, from other investment bloggers, and even from my readers from time to time – “Can your mutual funds beat the stock market?” The crazy thing is, the answer to the question always seemed to be a little different. I just want to know the truth!!

  • Should I be spending my time picking out solid mutual funds to beat the market? Or,
  • Should I stop wasting all that added effort and just invest in Index Funds like Mr. Hallam suggests?

Here’s what I decided to do to figure out if one could actually beat the stock market with mutual funds:

  1. Pull all the numbers on the S&P 500 and track the yearly growth decade by decade
  2. Research seven mutual funds today that have been around for 30+ years
  3. For those the funds that beat the S&P 500 from 1988-1997, analyze how many of them continued to beat the stock market in the years following

If the majority of the mutual funds that beat the stock market in the first decade continued to beat the general stock market in all the future decades, I’d say there’s a pretty good chance that, based on the history of the mutual funds, I’d be able to pick a few that would yield a higher return than the S&P 500 index.

Disclaimer: This analysis is not designed to encourage your investment into any of these funds. Please invest at your own risk.

YearsS&P 500 IndexVanguard Equity Income Fund (VEIPX)Vanguard Growth and Income Fund (VQNPX)Vanguard Windsor Inv Fund (VWNDX)Vanguard US Growth Fund (VWUSX)Vanguard Wellington Inv Fund ((VWELX)Massachusette Inv Trust Fund (MITTX)Fidelity Large Growth Fund (FFIDX)
1978-198710.7%
18.9%14.2%14.9%14.3%15.7%
1988-199714.4%16.2%18.3%16.2%18.2%14.7%17.9%17.3%
1998-20073.7%5.5%5.9%1.7%0.0%8.4%4.6%7.0%
2008-20176.9%9.8%8.1%13.5%9.1%7.5%8.2%6.8%

Check out the table above. In the decade spanning from 1988 to 1997, all seven of these mutual funds beat the overall stock market – some quite handily I might add.

So of these seven mutual funds, how many continued to beat the S&P 500 in the decades that followed?

  • Between 1998 and 2007, 5 of these 7 mutual funds beat the general stock market, and
  • Between 2008 and 2017, 6 of those same 7 mutual funds beat the general stock market, and by an average of 2.1%!

At this point, it almost seems like a slam dunk, right?! Sorry Andrew Hallam, but your theories about sticking with the general course of the stock market by investing in Index Funds is fading fast…

But actually…before we check the box and move on, I think we should consider a few more variables.

Is It True? Can Mutual Funds Beat the Stock Market?

There are still a couple of things that just aren’t sitting with me quite right – not the feeling I get after gorging two double quarter-pounders at McDonalds, but more the feeling I got as a 7 year old boy that just beat his Dad in a one-on-one game of basketball – things just don’t seem to be adding up here.

For one, I looked into the history of index funds that still exist today, which to be honest is a bit unfair. If historic funds perform poorly, they either get a name change or they just close up shop and stop existing all together. The fact that these funds are still around most likely means that they have done well in the past, so it gives them somewhat of an upper hand when it comes to this comparison.

Secondly, I still wonder about the fees of these mutual funds. According to Andrew, mutual funds commonly have fees for:

  • All the employees that actively manage the fund
  • Advertising
  • Trading fees (mutual fund stocks are traded far more often than index fund stocks)
  • Sales commissions, and
  • Taxes for all those additional trades, meaning realized (taxable) income

I think it’s worth digging into.

What About the Fees of the Mutual Funds?

According to the bright minds at Investopedia.com,

  • Operating expenses (salaries, advertising, record keeping, etc.) are factored into the growth percentages
  • Brokerage fees and commissions are not

In other words, if you invest on your own and don’t get sucked into front-end or back-end loaded funds, then your growth percentages will exactly match the table above.

But, if you’ve got an advisor that’s helping you out, chances are that you’re not earning as much as you think you are. At best, you’re probably losing 1% on your growth to pay your “wicked smart” advisor. 😉

With this newfound knowledge, let’s take another look at that table after subtracting the broker/advisor fees:

YearsS&P 500 IndexVanguard Equity Income Fund (VEIPX)Vanguard Growth and Income Fund (VQNPX)Vanguard Windsor Inv Fund (VWNDX)Vanguard US Growth Fund (VWUSX)Vanguard Wellington Inv Fund ((VWELX)Massachusette Inv Trust Fund (MITTX)Fidelity Large Growth Fund (FFIDX)
1978-198710.7%
17.9%13.2%13.9%13.3%14.7%
1988-199714.4%15.2%17.3%15.2%17.2%13.7%16.9%16.3%
1998-20073.7%4.5%4.9%0.7%-1.0%7.4%3.6%6.0%
2008-20176.9%8.8%7.1%12.5%8.1%6.5%7.2%5.8%

It’s suddenly becoming less appealing, isn’t it? Instead of 5 mutual funds beating the market between 1998 and 2007, there are now just four. And the 6 out of 7 beating the market from 2008-2017 has now dropped to 5 out of 7. Not to mention the tax issue. With a fund that’s buying and selling more often, you’re going to pay more in capital gains over time. It’s tough to quantify this because every fund is different, but we certainly shouldn’t forget about it.

Is It True? Can Your Mutual Funds Beat the Stock Market?

This matter isn’t so cut and dry is it? I guess that’s why it’s so heavily debated. Let’s recap on our learnings thus far though.

  1. It is possible for a mutual fund to beat the stock market in any given year, and sometimes by a landslide!
  2. It’s also possible for a mutual fund to continually beat the stock market decade after decade, BUT
  3. To choose the right mutual funds is often very difficult to do (not all continue to out-perform the S&P 500), which means you’ll likely need the help of an advisor,
  4. Which of course means that you’ll be paying out higher fees to your advisor, and therefore depleting your earnings

So can your mutual funds beat the stock market? Yes, it’s possible, especially if you’re comfortable investing on your own. BUT, this play doesn’t come without risk and added time for research. For me, even after all this analysis, I’m still comfortable leaving the majority of my paper investments in S&P index funds. There’s just not enough evidence to start playing the “beat the stock market” game.

How about you? Do you believe that your mutual funds beat the stock market? Or are you more of a low-cost index investor like me?

If you enjoyed this article, Get email updates (It’s Free!)


  • 21
  •  
  • 1
  •  
  •  
    22
    Shares
  • 21
  •  
  • 1
  •  

7 comments to Can Your Mutual Funds Beat the Stock Market?

  • Great post, I’m a strong believer in choosing mutual funds over ETF for exactly this reason. Especially in not so crowded spaces like Indian/ Chinese equities, unconstrained/ emerging market fixed income a good manager can make a ton of a difference. Beware of understanding the WHY of how the MF exceeds the index and keep monitoring. Cheerio!

    • Hi Matt. Thanks for the comment! I thought the numbers would be more clear-cut between mutual funds and index funds, but that just wasn’t the case. I’m so glad I did the analysis, and I hope this helps out a ton of people in the future.

      The first hurdle to get over is: invest or not invest? And clearly the answer is invest. Then it’s mutual funds or index funds? Certain mutual funds may be better, but index funds will still earn you loads of money (assuming the general stock market continues to rise). The main message here: INVEST!!

  • Nice post, Derek – thanks for sharing.

    On your immediate question (via the title), yes and no. Here’s why:

    (1) No one really knows!
    (2) If not beat it, at least meet it!

    As you highlighted, low cost, broad-based indexing will beat out the vast majority of funds. Admittedly, we do leverage certain actively managed funds via Vanguard to focus on a specific segment of the market for a portion of out net worth, but we’re overall in broad-based index funds.

    Thanks again for the post. – Mike

    • I like your #2. If not beat it, then meet it! I think the appropriate answer is, “Why not just do a mix of mutual funds and index funds?” You take out some risk, but you still might beat the market somewhat. You’re welcome for the post! It was definitely interesting research!

  • whiskey

    This is a good one Derek. I’ve heard the higher % returns as well, but wondered about the cost/ratio etc and how it would effect the overall. Admittedly I have been lazy in looking at it in more detail. Ive been happy with my index funds and their ratio’s.
    Yes, “if not beat it, at least meet it!”, at the bare minimum do something….

    • Glad you liked it, Whiskey! It took a while to research, but it was totally worth it in my book. I’m the same as you, chances are that the Index Funds are the way to go – especially if you don’t want to have to think to hard about your investments.

  • […] Related: Can Your Mutual Funds Beat the Stock Market?? […]

Leave a Reply

You can use these HTML tags

<a href="" title=""> <abbr title=""> <acronym title=""> <b> <blockquote cite=""> <cite> <code> <del datetime=""> <em> <i> <q cite=""> <s> <strike> <strong>

  

  

  

CommentLuv badge