Why do active managers underperform broad-based stock indexes? Hendrik Bessembinder of Arizona State thinks he might have the answer. The vast majority of stocks have failed to outperform T-Bills, he points out in a study. It is only a small percentage of stocks that lead indexes higher. On a statistical basis, selecting individual issues means the odds are stacked against the stock picker from the start.
When Bessembinder looks at the title of his August 2017 study, “Do Stocks Outperform Treasury Bills?” he considers it “nonsensical.” After all, the fact that long-term stock market investments perform better than short-term, T-Bills has been extensively documented, he notes.
“The degree to which stock markets outperform is so large that there is wide-spread reference to the ‘equity premium puzzle,’” he wrote. The S&P 500, which traded near 250 just before the Great Depression, has doubled ten times over, generating nearly a 10% annual compounded growth rate. Compare this to a one-month T-Bills, with an average monthly rate of return of 0.37%, or 4.4% per year, and it seems obvious that stocks have returned more than T-Bills.
Specifically, the study states:
The 1,092 top-performing companies, slightly more than four percent of the total, account for all of the wealth creation.
But the major indexes, which are asset-weighted can be misleading.
Just four stocks – Apple, Microsoft, Amazon and Facebook – collectively make up more than 10% of the S&P 500 year to date. On an equal weighted basis, they represent less than 1%. Further, 40% of the value of the QQQ, market-cap-weighted index of 100 top Nasdaq-listed stocks, is attributed to these same four stocks.
Recognizing this, Bessembinder relied upon the Center for Research in Securities Prices (CRSP) monthly stock return database. This database has wide coverage, including all common stocks listed on the NYSE, Amex, and NASDAQ exchanges.
