You’re mentally exhausted. It’s getting late and you’re on the tail end of a 12-hour marathon poker session. You’re down for the evening and desperately want to get back your losses. It seems your premium hands keep getting beaten by garbage. You try and stay disciplined and wait for a good opportunity, but it never comes. 7-3... fold, K-2... fold, 4-9... fold. Sigh. You’re running out of patience and time.
Then it happens.
You are dealt 5-2 offsuit. This is usually an easy fold, but you notice an active, aggressive player opens the pot for his standard raise.
You decide to make a sizable re-raise (3-bet).
Your opponent stiffens his posture and sits up in his chair. He’s looking down on you like he’s up in a perch. He meekly says “all-in” and pushes his decent sized stack in the middle.
You know it's a fold, but your cards stick to your hands like glue. You become frozen. You literally beat nothing. You'll be mocked by the entire poker room if you call and flip over 5 high. But you have a feeling, like a degenerate gambler often says after folding the eventual winning hand, "I knew it was coming!"
You sheepishly call while simultaneously rising to your feet to make a quick exit after the inevitable loss. Your opponent launches out of his chair and quickly tables A-A.
Source: Cardplayer.com odds calculator
The above graphic shows the win percentages for 5-2 vs. A-A. Surprisingly, 5-2 wins 14.20% of the time if the money goes in before the flop.
The flop, turn, and river (the next five community cards) bring no help to your 5-2 and you have successfully punted your stack. Good game.
In real life, the poker player that spews off money with 5-2 quickly goes broke. In the mutual fund world, despite failure after failure, new money continues to pour in blinded by salesmanship and the elusive hope of outperformance.
The crusty, old guard hocking active mutual funds to unsuspecting investors is the equivalent of shoving your chips in the middle with 5-2. They had a "feeling" this was the year of the active manager. Their luck has to turn around.
Sometimes, a mutual fund manager will get lucky and win. The majority of the time they fail.
The fiction section can be fun, but we prefer evidence:
Despite the market volatility, 2018 was the 4th worst year for active U.S. equity managers since 2001 (active managers often tout their ability to add value during volatile markets).
For the ninth consecutive year, the majority (64.49%) of active large-cap funds underperformed the S&P 500.
Over a 15-year period, an astounding 88.97% of all U.S. domestic funds failed to beat their benchmark (S&P Composite 1500).
Source: S&P Dow Jones Indices SPIVA U.S. Year-End 2018 Report
In other words, you would have better odds (14.20%) calling off your money with 5-2 vs. A-A preflop than beating the market investing in an active mutual fund (11.03%) over the past 15 years.
Don't fall for the narratives or myths perpetuated by the financial services complex i.e. financial advisors, mutual fund companies, wholesalers, anyone that stands to profit from clipping their outsized fees.
They'll say things like...
"This is a stock picker's market."
"We expect active to outperform this year."
"Passive will get crushed in a down market."
"We can manage risk better during volatile periods."
Sure, it sounds good. It might even make for a compelling story, but it doesn't hold up to evidence.
If you own high-cost, active mutual funds, why are you still playing a loser's game?