Friday, June 5, 2009

Why active investing is a negative sum game

Fama French present very sound arguments why active investing is a negative sum gain (or game!).

The intuition is simple. Passive investors hold a market cap weighted portfolio. Active investors don't. They over or under weight certain stocks. The gains to one active investor must then be offset by losses from another active investor. But both pay higher expenses. Therefore, in aggregate, active investors cannot outperform passive investors. This applies to any time period.