Journey into the Whirlwind: Graham-and-Doddsville Revisited

Abstract

The mutual fund is a superb concept, a vehicle for investors to pool their savings in a diversified portfolio and thus acquire experienced management, as well as economies of scale in fees and expenses. Mutual funds offer, too, remarkable flexibility, the ability to withdraw at will even modest sums, at the underlying asset value. Being a favored child of the law, investors receive detailed disclosures, a safe harbor from double taxation, and SEC oversight. Markets fluctuate, but a mutual fund's diversity and presumably skilled management allow the investor to take a longer view, freeing him from the concern that Stock A or B will report lower earnings next week. Clearly, those thrifty Scots had a brilliant idea, and equity mutual funds alone now have $4 trillion in assets, up from a mere $250 billion as recently as 1990.

What follows is a speech I gave in December 2005 before the NY Society of Security Analysts. It was billed as a celebration of Graham-and-Dodd style value investing, and indeed the invitation had been a consequence of an article I wrote earlier that year, in which I explored a dramatically successful group of patient investors ("Searching for Rational Investors in a Perfect Storm"). I used the occasion to take a broader look at mutual funds, and in particular to study large cap growth funds, which it developed play the performance game, turning over their portfolios at stunning rates with disheartening results for investors, though not for the managers. An update of my earlier study provided a useful benchmark.