The Larger the Fund, the Fewer the Stocks

One of the important lessons of investing is that individual investors often have an advantage over professionals. They don’t have to meet quarterly goals. They don’t have to justify their actions to committees.
Another is that as mutual funds get larger, it’s harder for them to make nimble investments. Consider these words from Jack Bogle:

Jack Bogle shows how the investable universe of stocks declines sharply as a function of fund size. Assuming that a fund can hold no more than 5 percent of the outstanding shares of any company, Bogle estimates that a fund with $1 billion of assets can choose from over 1,900 stocks while a fund with $20 billion has a universe of about 250 stocks. So it happens that success can sow the seeds of its own failure.

True dat. This comes from an interesting report from Michael Mauboussin at Legg Mason (via Abnormal Returns). Of course, large mutual funds can invest in smaller stocks but those stocks play a much smaller role in the fund’s overall performance. It doesn’t take much to build a portfolio that’s nearly blind to moves of the overall market.
What really hurts individual investors is time horizon. While stocks have done better in the long run, that long run can indeed be a very, very long time.

Posted by on August 25th, 2010 at 3:20 pm


The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or other interests in securities mentioned in the Blog, please see my Disclaimer page for my full disclaimer.