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More evidence that it’s very hard to ‘beat the market’ over time, 95% of finance professionals can’t do it
View related content: Carpe Diem
S&P Dow Jones Indices, the “de facto scorekeeper of the active versus passive investing debate,” recently released its SPIVA U.S. Year-End 2017 report (see other reports here for Europe, Latin America, Canada, Australia, India, Japan, etc.). Here’s an overview of the SPIVA Scorecard:
There is nothing novel about the index versus active debate. It has been a contentious subject for decades, and there are few strong believers on both sides, with the vast majority of market participants falling somewhere in between. Since its first publication 16 years ago, the SPIVA Scorecard has served as the de facto scorekeeper of the active versus passive debate. For more than a decade, we have heard passionate arguments from believers in both camps when headline numbers have deviated from their beliefs.
And here are some highlights of the 2017 SPIVA US Scorecard (bold added):
During the one-year period, the percentage of managers outperforming their respective benchmarks noticeably increased in categories like Mid-Cap Growth and Small-Cap Growth Funds, compared to results from six months prior. Over the one-year period, 63.08% of large-cap managers, 44.41% of mid-cap managers, and 47.70% of small-cap managers underperformed the S&P 500, the S&P MidCap 400, and the S&P SmallCap 600, respectively (see table above).
While results over the short term were favorable, the majority of active equity funds underperformed over the longer-term investment horizons. Over the five-year period, 84.23% of large-cap managers, 85.06% of mid-cap managers, and 91.17% of small-cap managers lagged their respective benchmarks (see table).
Similarly, over the 15-year investment horizon, 92.33% of large-cap managers, 94.81% of mid-cap managers, and 95.73% of small-cap managers failed to outperform on a relative basis (see red highlight in table).
MP: Stated differently, over the last 15 years from 2002 to 2017, only one in 13 large-cap managers, only one in 19 mid-cap managers, and one in 23 small-cap managers were able to outperform their benchmark index. So it is possible for some active fund managers to “beat the market” over various time horizons, although there’s no guarantee that they will continue to do so in the future. And the percentage of active managers who do beat the market is usually pretty small – fewer than 8% in most of the cases above over the last 15 years; and they may not sustain that performance in the future. For many investors, the ability to invest in low-cost, passive, unmanaged index funds and outperform 92% of high-fee, highly paid, professional active fund managers seems like a no-brainer, especially considering it requires no research or time trying to find the active managers who beat the market in the past and might do so in the future.
Here’s an analogy, perhaps it’s not perfect: Suppose you could be guaranteed to score in the 95th percentile on the LSAT, MCAT, GRE, or GMAT exam without studying for even one minute. Wouldn’t that be appealing to most people compared to the alternative of spending a lot of time studying and probably getting a lower score? If I can out-perform 95% of active managers with a Vanguard or Fidelity index fund for almost free (.04% expense ratio), that choice to me seems easy: go with index investing. As Bethany McLean wrote in Fortune “Building a portfolio around index funds isn’t really settling for the average. It’s just refusing to believe in magic.”
Here’s a golf analogy from Burton Malkiel:
It’s true that when you buy an index fund, you give up the chance to boast at the golf course that you picked the best performing stock or mutual fund. That’s why some critics claim that indexing relegates your results to mediocrity. In fact, you are virtually guaranteed to do better than average. It’s like going out on the golf course and shooting every round at par. How many golfers can do better than that? Index funds provide a simple low-cost solution to your investing problems.
And extending the index investing-golf analogy, you can be a “scratch golfer” without even having to practice, buy expensive golf clubs, or take lessons from pros, and you also get the additional benefit of paying much lower green fees (or private club fees) than most golfers who do practice incessantly, invest in the best golf equipment and take private lessons! Sign me up for that deal!
More than 6 Americans produce services for every worker producing physical stuff. And yet, Trump ignores thriving US service-sector in talks about trade
View related content: Carpe Diem
The chart above shows that the number of goods-producing jobs in the US has remained relatively flat since WWII at about 20 million, while the number of service-sector jobs has increased nearly seven-fold during that time period from fewer than 19 million in 1939 to nearly 128 million in February 2018. And yet for several generations, we seem determined as a country to try to save or bring back manufacturing/factory jobs that really never existed at levels very far above today’s level for goods-producing employment. At the same time, there’s not much attention paid to promoting or celebrating the service sector, which is really America’s only job-creating sector that has added an average of 1.62 million jobs annually (81 million jobs in total) over the last half-century, while the good-producing sector shed 1.8 million jobs.
That issue and paradox were discussed in two recent articles featured below.
1. From the New York Times article “Most Americans Produce Services, Not Stuff. Trump Ignores That in Talking About Trade” by Neil Irwin:
You probably work in the service sector. This seems like a safe assertion, as 86 percent of private-sector jobs in the United States are in services. By contrast, “goods-producing” jobs like logging, mining, construction and manufacturing accounted for only 20.5 million jobs last month, in a nation with 148 million total positions (see chart above).
If we’ve guessed right about your occupation, the question for you and 128 million fellow service workers — a very broad category that includes retail clerks, truck drivers, architects, bankers, doctors and more — is whether the Trump administration cares about your economic fate.
The most recent reason to wonder is President Trump’s repeated assertion this week that the United States maintains a trade deficit with Canada — a claim contradicted by United States government data. Mr. Trump’s spokeswoman, Sarah Huckabee Sanders, said in a Twitter message that numbers showing a trade deficit with the country “reflect trade in goods.” In other words, it’s true the United States runs a trade deficit with Canada as long as you don’t include service industries — the industries that account for the vast majority of jobs.
The risk is that if trade negotiators follow the president’s lead and focus entirely on obtaining more advantageous treatment for American goods-producing industries, it could come at the cost of concessions that damage industries that employ far more people.
…for that great majority of people who work in service industries, it might be reassuring if the president himself acknowledged more readily that there’s more to a modern economy than making physical stuff.
2. From the article “America’s Strength in Services Promises Trade Success” by John G. Murphy, senior vice-president for international policy at the US Chamber of Commerce:
George Orwell famously wrote that “to see what is in front of one’s nose needs a constant struggle.” This statement is certainly true for the vast and often overlooked world of trade in services. Consider:
- Services Rule. Services dominate the U.S. economy. Broadly speaking, services provide about 80% of all American jobs (approximately 120 million of 150 million American jobs, according to data from the Bureau of Labor Statistics, see chart above).
- More Jobs, Higher Pay. Professional and business services employ 20.5 million Americans, making this sector a larger employer than manufacturing (66% larger, in fact). What’s more, these are good jobs: Wages in these fields are 18% higher on average than those in manufacturing (average hourly earnings of $31 versus $26).
- Increasingly Tradeable. Many services can be exported, particularly those categorized broadly as professional and business services. These include fields such as audiovisual, software, architecture, accounting, engineering and project management, banking, insurance, waste management, and advertising. The Internet is making more of these services tradeable every day.
- Competitive Advantage. The United States has become the world’s largest exporter of services. U.S. services exports reached $750 billion in 2016, and the United States has a trade surplus in services of $248 billion. What’s more, services sales by foreign affiliates of U.S. multinational corporations top $1.4 trillion.
- Untapped Potential. Despite these big numbers, the potential for service industries to engage in international trade is almost untapped. One in four U.S. factories exports, but just one in every 20 providers of business services does so. Just 3% of U.S. services output is exported, according to the Peterson Institute for International Economics.
Clearly, a trade agenda that focuses exclusively on manufacturing and agriculture would leave money on the table. To capitalize on America’s tremendous strengths in services, the Trump Administration should jumpstart the Trade in Services Agreement (TISA) negotiations.
The TISA aims to remove barriers to trade in services among 50 countries that represent more than two-thirds of world trade in services. When the TISA negotiations began three years ago, the Chamber and other business groups advised that its chief goals should be to expand access to foreign markets and bar discrimination against U.S. companies. In addition, it should lift foreign governments’ limits on U.S. investments in their services sectors.
The TISA also represents an opportunity to craft enforceable rade rules that reflect how data has become the new currency of international commerce. That’s why the TISA must include enforceable rules to ensure that enterprises and individuals can move data across borders in a reliable and secure manner.
To illustrate the point, a recent Chamber study estimated that reducing market and regulatory barriers to cross-border information and communications technology (ICT) services could boost global GDP by an impressive $1.72 trillion. This finding confirms that international data flows have become a vital catalyst of global economic growth—and American companies and American technology are at the forefront.
The TISA is a great opportunity for the United States to go on offense. It’s a major opportunity to spur U.S. economic growth and job creation. The United States needs to be at the table, setting the rules of trade, and reaping the rewards.
MP: It’s a great point that all of the incessant hand-wringing about the loss of US factory jobs, the decline of the Rust Belt and the supposed “hollowing out of American manufacturing,” and the subsequent attempts to save or bring back those jobs with protectionist trade policy, miss the bigger picture of the US labor market, which is a job-creating machine when it comes to the dynamic, thriving service-providing sector that has added an average of 4,500 new jobs every day to the nation’s labor force over the last half-century.
The first economic lesson that Larry Kudlow should deliver to Trump? That trade deficits are ‘made in the USA’ ….
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…. according to Johns Hopkins University economist Steve Hanke writing in Forbes (bold added):
What is the first lesson on trade that Larry Kudlow must deliver? It should be titled “The Overall U.S. Trade Balance Is Made In The U.S.A., Not By ‘Unfair’ Foreign Trade Practices.” The economic identity that forms the foundation for this lesson in international trade is:
(Imports – Exports) ≡ (Private Investment – Private Savings) + (Government Spending – Taxes)
Accordingly, the trade deficit is equal to the excess of private sector investment over savings, plus the excess of government spending over tax revenue. So the counterpart of the trade deficit is the sum of the private sector deficit and the government deficit (federal + state and local). The U.S. trade deficit is therefore just the mirror image of what is happening in the U.S. domestic economy. If expenditures in the U.S. exceed the incomes produced in the U.S., which they do, the excess expenditures will be met by an excess of imports over exports (read: a trade deficit).
The table above shows that U.S. data support the important trade identity. The cumulative trade deficit the U.S. has racked up since 1975 is about $11.15 trillion, and the total investment minus savings deficit is about $10.44 trillion. So U.S. trade deficits are not caused by “unfair” trade practices. They are made in the good old U.S.A.
Armed with the above table, Kudlow should make it clear that the imposition of anti-China tariffs or the brow beating of Chairman Xi might reduce the U.S. bilateral trade deficit with China, but it will not alter the overall U.S. trade deficit. Indeed, if China is forced to reduce its bilateral trade surplus with the U.S., then others will supply what the U.S. consumers and investors demand. Yes, others will accommodate the U.S. overall trade deficit that is dictated by the trade identity.
The only effective way for Trump to exorcise his demon (read: the overall U.S. trade deficit) would be for him to reduce the U.S. fiscal deficit (see the identity above). But ironically, President Trump’s policies are projected to increase the fiscal deficit, which will result in a larger trade deficit.
MP: Although I’m sure that Larry Kudlow understands the important and obvious economic lesson about trade and trade deficits outlined by Professor Hanke above, I predict that he’ll be unsuccessful at getting his “student” to understand the lesson….
View related content: Carpe Diem
From the article “This Chart Shows the Slow Death of the NYC Yellow Taxi” by Nick Lucchesi:
A new chart released this week shows that the New York City taxi cab is not only an endangered species but that its days are numbered. Today, there are 65 percent more ride-hailing trips than taxi trips in New York City (see chart above).
Genius employee and data-visual enthusiast Todd Schneider pulled from the reams of data released by the New York City Taxi & Limousine Commission each month that shows fares by car type — taxi or ride-hailing service. His analysis shows the tide has turned: At the end of 2017, all monthly ride-hailing pickups (Uber, Lyft, Juno, Via, Gett) numbered 15 million, while taxi pickups numbered less than 10 million. As use of yellow taxis (which primarily serve Manhattan) and green taxis (which primarily serve the other four boroughs) has been on the decline, there’s been a sharp increase in the use of ride-hailing apps.
The chart above shows the data behind one of the most dramatic changes in America’s largest city over the past five years. The way people in New York (tourists and locals alike) get around has flipped, and it doesn’t show any sign of stopping, according to Schneider’s analysis.
Related: According to the most recent monthly report from the New York City Taxi and Limousine Commission for taxi medallion sales in February, most of the medallion sales are now foreclosures (24 out of 37) and one medallion sold for only $125,000. The January report was equally as bleak — one taxi medallion sold for $120,000 and the majority (47 out of 62) were listed as either bankruptcy or foreclosure sales. As recently as August 2014, NYC taxi medallions were selling for $1 million, just as the ride-hailing revolution was beginning (see chart) and Hurricane Joseph Schumpeter started disrupting the NYC transportation market with a very large, once-in-a-century tsunami of creative destruction called “The Uber Effect.”
View related content: Carpe Diem
There seems to be a couple of plans Lyft is testing out. One costs $199 up front to get 30 free rides worth up to $15 per ride. Another plan costs $399 a month for 60 rides. So, it appears as if Lyft is A/B testing to try to figure out just how much people are willing to pay.
MP: At the apartment building where I live in DC, it costs almost $200 per month just for an off-street parking spot. For that monthly parking payment, which doesn’t, of course, include your car payment, insurance or gas, etc., you can get 30 rides with Lyft — seems like a great and affordable alternative to owning a car.
View related content: Carpe Diem
A panel of 40 economists at some of America’s top universities (MIT, Harvard, Yale, Chicago, Princeton, Stanford and UC-Berkeley) were asked in a survey conducted by the Initiative on Global Markets (Chicago Booth School of Business) if they agree or disagree that the statement “imposing new US tariffs on steel and aluminum will improve Americans’ welfare.”
When their answers were weighted by each economist’s confidence in his or her answer, 76% of the experts strongly disagreed and 24% disagreed, and none agreed or were uncertain! As I’ve mentioned several times recently on CD recently (here and here) the math of protectionism is pretty simple, and pretty ugly, in terms of its predictable negative effects on the economy. 100% of some of the top economists in the country agree.
View related content: Carpe Diem
… you claim moral superiority and take pride in yourself for allegedly caring more about total strangers in Detroit than about total strangers in Juarez.
… you think it’s okay for Americans to enrich themselves by stealing the right to earn a living by denying foreigners the right to earn a living.
… you think it’s okay to discriminate on the basis of national origin no less virulently than David Duke or any other overt racist would discriminate on the basis of skin color.
Inspired by University of Rochester economist Steven E. Landsburg’s 2005 article in Forbes “Xenophobia and Politics.”
Bonus Video (below): Fox News guy John Gibson interviews Professor Landsburg about his Forbes column, but he just doesn’t get it.
View related content: Carpe Diem
In yesterday’s Wall Street Journal, Jason Riley wrote an op-ed titled “Lessons From the Rise of America’s Irish,” with the sub-title “They arrived dirt poor and uneducated in the 1840s. After decades of struggle, they achieved prosperity.” Here’s an excerpt where Jason Riley compares Irish peasants coming to America in the 1840s to slaves in the U.S. at that time:
The peasants fleeing Ireland had a shorter life expectancy (19 years) than slaves in the U.S. (36 years), many of whom enjoyed healthier diets and better living quarters. Most slaves slept on mattresses, while most poor Irish peasants slept on piles of straw. The black scholar W.E.B. Du Bois wrote that freed slaves were poor by American standards, “but not as poor as the Irish peasants.”
The Irish who left for America were packed into the unused cargo space of wind-driven ships returning to the U.S., and the voyage could take up to three months, depending on weather. These cargo holds weren’t intended to carry passengers, and the lack of proper ventilation and sanitation meant that outbreaks of typhus, cholera and other fatal diseases were common. Emigrants slept on 3-by-6-foot shelves, which one observer described as “still reeking from the ineradicable stench left by the emigrants of the last voyage.”
In 1847, 19% of the Irish emigrants died on their way to the U.S. or shortly after arriving. By comparison, the average mortality rate on British slave ships of the period was 9%. Slave-owners had an economic incentive to keep slaves alive. No one had such an interest in the Irish.
The 19th-century immigrants from Europe usually started at the bottom, both socially and economically, and the Irish epitomized this trend. Irish men worked as manual laborers, while Irish women were domestic servants. But not all ethnic groups rose to prosperity at the same rate, and the rise of the Irish was especially slow. They had arrived from a country that was mostly rural, yet they settled in cities like Boston and New York, working “wherever brawn and not skill was the chief requirement,” as one historian put it. In the antebellum South, the Irish took jobs—mining coal, building canals and railroads—considered too hazardous even for slaves.
Jason also referred to the Census Bureau’s annual demographic profile of Irish-Americans, here are some interesting facts from last year’s profile:
- 32.7 million or 10.2% of U.S. residents in 2015 claimed Irish ancestry, which is more than seven times the population of Ireland itself (4.6 million).
- 2o.2% of Massachusetts residents claimed Irish ancestry in 2015. New Hampshire, at 20.6 percent, was the only other state in which at least 20.0 percent claimed Irish ancestry (see map above).
- 36.2% of people of Irish ancestry, age 25 or older, had a bachelor’s degree or higher in 2015. In addition, 94.1 percent of Irish-Americans in this age group had at least a high school diploma. For the nation as a whole, the corresponding rates were 30.6 percent and 87.1 percent, respectively.
- The median income for households headed by an Irish-American was $64,322 in 2015, higher than the median household income of $55,775 for all households. In addition, 6.5 percent of family households headed by a householder of Irish ancestry were in poverty, lower than the rate of 10.6 percent for all Americans.
MP: As an Irish-American myself, Happy St. Patrick’s Day 2018, and I’m just guessing that most of us Irish-Americans don’t consider the phrase “America is a land of opportunity” to be a microaggression. Given our peasant ancestors’ wretched starting point in 1840, the rise of America’s Irish over the last several centuries is a testament to the resiliency of the human spirit and to the fact that America is an “opportunity factory” unmatched by any other country in the world.
Bonus Video: “A Brief History of the Irish,” an excerpt from Thomas Sowell’s 1985 book “The Economics and Politics of Race: An International Perspective.”
If SAT test is reliable measure of college performance, could gender differences on math SAT explain differences in STEM?
View related content: Carpe Diem
High school boys have consistently outperformed their female counterparts on the Math SAT test for the last 50 years going back to the 1960s as the top chart above shows. Further, for perfect scores (800 points) or near-perfect scores (750 to 790 points) high school boy in 2015 (most recent year available) outnumbered girls by a ratio of almost 2-to-1 providing evidence that there are a lot more boys than girls at the very highest levels of math aptitude. I’ve suggested before that the male outperformance on the math SAT test over the last half century could be one reason that females are under-represented for some STEM degrees and careers (with notable exceptions like biology, nursing science, zoology, pharmacy and veterinary medicine) especially the most quantitative fields like chemistry, mechanical engineering, and computer science.
But what about the possible objection that the SAT tests are biased in some way or are not good predictors of future success in college and careers? That objection was addressed in a recent Wall Street Journal article “The Truth About the SAT and ACT” by University of Minnesota professors Nathan Kuncel and Paul Sacket whose main conclusion is that despite all of the myths about standardized tests (SAT and ACT), the research is clear: They provide an invaluable measure of how students are likely to perform in college and beyond. Here are some key excerpts:
…standardized tests tell us a lot about an applicant’s likely academic performance and eventual career success. Saying as much has become controversial in recent years, as standardized tests of every sort have come under attack. But our own research and that of others in the field show conclusively that a few hours of assessment do yield useful information for admissions decisions. Unfortunately, a lot of myths have developed around these tests—myths that stand in the way of a thoughtful discussion of their role and importance.
From the section Myth: Tests Are Not Related to Success in the Real World:
Longitudinal research demonstrates that standardized tests predict not just grades all the way through college but also the level of courses a student is likely to take. Our research shows that higher test scores are clearly related to choosing more difficult majors and to taking advanced coursework in all fields. At many schools, the same bachelor’s degree can be earned largely with introductory courses or with classes that approach the level of a master’s degree. Students with high test scores are more likely to take the challenging route through college.
Tests also predict outcomes beyond college. A 2007 paper published in the journal Science presented a quantitative review across thousands of studies and hundreds of thousands of students, examining the predictive power of graduate-school admissions tests for law, business, medicine and academic fields. It showed that the tests predict not only grades but also several other important outcomes, including faculty evaluations, research accomplishments, degree attainment, performance on comprehensive exams and professional licensure.
From the section Myth: Beyond a Certain Point, Higher Scores Don’t Matter
Some might concede that these skills are important—but only up to a point, beyond which higher scores don’t matter. It’s an understandable intuition, but the research clearly shows that, all else being equal, more is better.
A remarkable longitudinal study published in 2008 in the journal Psychological Science examined students who scored in the top 1% at the age of 13. Twenty years later, they were, on average, very highly accomplished, with high incomes, major awards and career accomplishments that would make any parent proud.
Yet, even within that group, higher scores mattered. Those in the top quarter of the top 1% were more likely than those merely at the bottom quarter of the top 1% to have high incomes, patents, doctorates and published literary works and STEM research.
MP: Although the professors don’t specifically address the significant and persistent gender gap on the math SAT test favoring high school boys, the main conclusion of their research and article — that standardized tests are predictive of future success in college (including the selection of degree program) and beyond — would offer one possible explanation for the significant male over-representation in certain highly quantitative STEM college degree programs and careers. And if that’s the case, then no amount of federal funding, social engineering, and girls-only STEM summer camps will change what might just be a natural outcome.