Burton Malkiel, professor of economics at Princeton University, is the author of A Random Walk Down Wall Street and is currently preparing the tenth edition of the book. In a recent Financial Times interview, Mr. Malkiel insists that the data continue to indicate that markets are efficient despite the turmoil of recent years. He has found that the majority of active investors continue to underperform passive index funds over long periods of time. In addition, his research indicates that the passive approach provides better results even in emerging markets such as China.
One objection to the formulation of Mr. Malkiel’s argument is that it is not necessary to claim that markets are “efficient” in order to agree with the recommendation that the majority of investors would be better served in passive index funds. Since the majority of individual and professional investors can hardly be characterized as value investors, it is unsurprising that the results of most active portfolios would underperform the overall market over long periods of time. However, it does not follow that markets are therefore “efficient”. Instead, it appears that the majority of investors lack the discipline and methodology needed to produce superior results.
Warren Buffett’s famous article, The Superinvestors of Graham-and-Doddsville, was published over 25 years ago but remains a powerful reminder of how value investors can outperform the market using a common set of principles even though the application of these principles leads different investors to entirely different portfolios. In recent years, value investing has been able to produce good returns during a time when the overall market has been essentially flat after years of roller coaster movements.
Mr. Malkiel’s recommendation is correct: The majority of investors are best served in passive index funds. But this is because of the inherent failings of poor analysis, human emotion and temperament rather than because the markets are “efficient”.
Mr. Malkiel makes his case for market efficiency in the Financial Times video below. Click on the image to start the video.
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