03/12/2008 12:21 am ET Updated May 25, 2011

Smart Advice for the HuffPost Investor: Do You Think Your Broker Can Pick "Winners"? Think Again

With the markets tumbling, I thought it might be helpful to reflect on better times.

The S&P 500 Index peaked on October 9, 2007 capping a run that began precisely five years earlier. Investors who simply captured market returns doubled their money during that time period. Those investors can well afford to sit out the current turbulence in the markets and wait for the inevitable recovery.

But what about investors who relied on "investment professionals" to put together a portfolio of top performing stocks. How did the best of the breed do?

Weston J. Wellington, Vice President of Dimensional Fund Advisors, studied the performance of ten highly touted stocks during this time period. All of them were listed as "most admired" companies by Fortune. Six of them ranked as "dividend aristocrats" by Standard & Poors. Here is the list:



Berkshire Hathaway A



Home Depot

Johnson & Johnson


Southwest Airlines

Wal-Mart Stores

How fortunate you were if your "investment professional" put together this portfolio of elite stocks right before a long running bull market! You have nothing but pity for those investors who bought a boring S & P 500 index fund.

Where's the sizzle? Where's the "alpha"?

Here's the shocker.

Wellington found that none of these stocks outperformed the S & P 500 index during the 5 year bull market.

It gets worse.

All of these stocks underperformed every Dimensional passively managed fund, both domestic and international, during this time period.

As investors struggle with the falling market, the lessons of the past are clear to those who pay attention to the data:
  • Capture market returns by investing in a globally diversified portfolio of low cost index funds, with an asset allocation appropriate for your tolerance for risk and investment objectives.
  • Avoid brokers and advisors who tell you they can "beat the markets" (which eliminates most of them).
  • Stick to your investment strategy in good times and bad. You are in it for the long term.
  • Thanks for your kind comments and your stimulating questions. Please keep them coming.
  • Question From: olephart:

    Money Market funds and "Stabile" Investment funds are supposed to limit their investments to short term high quality debt instruments. We now know that the ratings on these debt instruments mean nothing. How would you rate the overall risk of these funds? Is there more safety in funds that only invest in Treasury Bills. What about those investing in Government Agency debt?


    It seems that everything we thought we knew about the bond markets is under attack. Bonds are supposed to be "safe." What happened?

    The reality is that bonds have a pecking order of risk and reward, just like stocks. The higher the yield, the greater the risk.

    U.S. Treasury Bills are considered to be "risk free" because they are backed by the full faith and credit of the U.S. Government. Because these Bills are perceived to have no credit risk, the yield is lower than bonds with more risk.

    Government agency debt is not backed by the full faith and credit of the U.S. Government. While it is perceived as having little credit risk, these bonds have more risk than Treasury Bills.

    There are low cost bond index funds that use the Lehman Aggregate Bond Index as a benchmark. This is an index of investment grade bonds traded in the U.S. These funds have more risk that Treasury Bills and government agency debt, but they are still very stable.

    The Vanguard Total Bond Index Fund (VBMFX) and the Fidelity U. S Bond Index Fund (FBIDX) are two such funds. Vanguard's bond fund is up 1.79% YTD, which gives you a good idea of how these funds perform in turbulent times.

    Investors should consider diversifying the bond portion of their portfolio to include foreign bonds. A good rule of thumb might be to have 50% of your bond portfolio invested in a U.S. bond index fund and 50% in a foreign bond index fund.

    For foreign exposure to bonds, consider the SPDR Lehman International Treasury Bond ETF (BWX). The fund charges 0.50% in annual expenses. It tracks the Lehman Brothers Global Treasury Ex-US Capped Index, which consists of fixed-rate, investment grade debt dominated in local currency from 18 countries.

    Because of the lack of foreign bond index funds (Vanguard, where are you?), you might also want to consider some actively managed funds in this category. Among the best known ones are the Oppenheimer International Bond Fund, unhedged (OIBAX), the Templeton Global Bond Fund, hedged (TPINX), the Alliance Bernstein Global Bond Fund leveraged, un-hedged (ANAGX) and the T. Rowe Price International Bond Fund (RPIBX).

    I don't usually recommend actively managed funds because of their higher expense ratios.

    There is overwhelming data that investors who have a globally diversified stock and bond portfolio, using primarily low cost index funds, will outperform 95% of professionally managed money.

    As an added benefit, these investors will also sleep better!

    Question From: AmericaninFrance

    I have recently been following your column here and am impressed by the common sense of your approach. As someone who has been investing the markets a long time and who currently uses an adviser to whom I pay substantial fees, I am very aware that I am receiving very little for the managament fees I pay. I would like to go the route you recommend but my dilemma is that I am an American living in Europe, and due to the Patriot Act many if not most mutual funds are not available to me to invest in. Do you have any suggestions as to how I might be able to implement your investment advice as an American Abroad? Thank you very much for your solid advice.


    If you are a U.S. citizen with a mailing address in the U.S., you should be able to implement my investment advice with any of the major fund families.

    If you do not have a U.S. mailing address, you are correct that it will be very difficult for you to do so.

    Vanguard offers a number of index funds to non-U.S. citizens and residents. You can learn more about these funds by going to its website.

    Question From: DDD

    Dan - Regarding your advice on Vanguard Index funds, my funds are invested with Fidelity. If I want to buy a Vanguard fund, which of the following is the best option: Set up a separate account with Vanguard (seems like a hassle), pay Fidelity a transaction fee to purchase Vanguard funds (seems like a waste of money), or just look for similar Fidelity funds?


    Fidelity offers comparable funds to the Vanguard funds I recommend. Here is a list:

    Fidelity Spartan Total Market Index Fund (FSTMX)

    Fidelity Spartan International Index Fund (FSIIX)

    Fidelity U.S. Bond Index Fund (FBIDX).

    One cautionary note:

    Fund families make much more money selling actively managed funds than index funds. Both Vanguard and Fidelity offer a broad range of both kinds of funds. Don't let them dissuade you from purchasing index funds.

    The views set forth in this blog are the opinions of the author alone and may not represent the views of any firm or entity with whom he is affiliated. The data, information, and content on this blog are for information, education, and non-commercial purposes only. Returns from index funds do not represent the performance of any investment advisory firm. The information on this blog does not involve the rendering of personalized investment advice and is limited to the dissemination of opinions on investing. No reader should construe these opinions as an offer of advisory services. Readers who require investment advice should retain the services of a competent investment professional. The information on this blog is not an offer to buy or sell, or a solicitation of any offer to buy or sell any securities or class of securities mentioned herein.