Will This Investment Crush Your Funds?

There are some lessons I don't seem to learn -- prudent things I advise others to do, yet don't do myself, or put off doing.

For example, I know it's often best to concentrate your investments in your best ideas -- the relatively few stocks (perhaps 10 or 20) in which you're most confident. But I've yet to really pare down my many holdings.

Similarly, I sometimes run across compelling articles extolling the virtues of index funds and making a case for how pointless it is to invest in managed funds. I often find that they make a lot of sense. Yet I still remain invested in some mutual funds that have great records. For example:

Data: Morningstar.

See? They have admirable long-term records -- and annual fees that aren't astronomical. I'll probably stick with them until they start seriously disappointing me, but there are reasons why one might avoid even impressive funds like these:

• Those fees. The difference in annual fees between an inexpensive index fund and a managed fund can be one percentage point or more. Even that little difference can add up. For instance, if a fee cuts your return from 10% to 9%, it will cut the growth of a $10,000 investment over 25 years from $108,000 to $86,000. See? That's a difference of $22,000.
• The factor of chance. According to noted finance professors Eugene Fama and Kenneth French, most active fund managers "do not have enough skill to produce risk-adjusted expected returns that cover their costs." In other words, while yes, some funds do outperform, it's hard to say whether that's due to skill or chance, and in many cases, it's chance.

So sticking with low-cost index funds, which beat most other funds, might be your best move. But if you go ahead and choose some managed funds, be sure that you're very confident in their managers -- and keep an eye on them.