# Buy the haystack

> Why owning the whole market beats most stock pickers, and what a 1% fee really costs.

Lesson 5 of 6 in [How money grows](https://learnfold.app/learn/money/), a free course from Learnfold.

Finding the next great company sounds like the smart move. The evidence says most people, professionals included, do better by owning all of them.

### Most stocks are duds

The finance professor Hendrik Bessembinder studied every US stock from 1926 to 2016. Four out of every seven did worse over their lifetime than short-term government bills, which is roughly what cash earns. Just over 4% of companies produced all of the stock market's net gains.

So the market's return comes from a small number of huge winners, and nobody knows in advance which ones they'll be. Hold ten stocks and you'll probably miss them. Hold thousands and you're sure to own them. Spreading your money this way is called diversification. Famous companies do go bust, and when you own a few thousand, one collapse barely shows.



Compare one stock per basket with 30, then press Play. In this simplified model, spreading company risk narrows the paths, while shared market shocks still move every basket.

### Index funds

An index fund buys every company on a list, called an index, in proportion to its size. It doesn't try to beat the market. It tries to match it, and because there's no team of analysts to pay, broad index funds often charge 0.2% a year or less.

An actively managed fund pays people to pick stocks they think will beat the market. That research costs money, and active fees of around 1% a year are common.

### What the scorecards say

S&P Dow Jones Indices publishes yearly SPIVA reports comparing active funds with the indexes they try to beat. Over 15-year periods, close to nine in ten actively managed US large-company funds have trailed their index. Reports for Europe, Canada, Australia, and other markets show a similar pattern, though the exact numbers vary.

Some managers do win. The trouble is spotting them ahead of time, because last decade's winners rarely stay on top.

The economist William Sharpe explained why in 1991, and it's plain arithmetic. Index investors as a group earn the market return, minus small fees. Everyone together owns the whole market, so active investors as a group must also earn the market return before costs. Their costs are higher, so on average they have to come out behind.

### What a 1% fee really costs

A 1% fee sounds tiny. But it comes out every year, from your whole balance, including all the growth from earlier years. So it compounds, against you.



Compare a 0.2% fee with 1%, then extend the years. The gap includes both the fees and the growth those fees could have earned.

Go back to the calculator in Growth on top of growth and tap the fee button. With \$200 a month at 6% for 30 years, the final balance drops from about \$195,000 to about \$161,000. The fee takes about \$33,500, more than a quarter of your growth. Over 40 years it takes about \$89,000, close to a third.

Most things in investing are out of your hands. You can't choose next year's return. You can choose what you pay, and you know that number before you start.

### Rabbit holes

> If index funds just copy the market, who keeps stock prices sensible?

> Why do last decade's best fund managers so rarely stay on top?

> Where do I find every fee I'm paying on a fund, including the hidden ones?

Read online: https://learnfold.app/learn/money/index-funds-and-fees/