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Dimensional Perspectives

Whether you’ve been investing for decades or are just getting started, at some point on your investment journey you’ll likely ask yourself some of the questions below. Trying to answer these questions may be intimidating, but know that you’re not alone. Your financial adviser is here to help. While this is not intended to be an exhaustive list, it will hopefully shed light on a few key principles, using data and reasoning, that may help improve investors’ odds of investment success in the long run.

1. What sort of competition do I face as an investor?

The market is an effective information-processing machine. Millions of market participants buy and sell securities every day, and the real-time information they bring helps set prices. This means competition is stiff, and trying to outguess market prices is difficult for anyone, even professional money managers (see question 2 for more on this). This is good news for investors though. Rather than basing an investment strategy on trying to find securities that are priced “incorrectly,” investors can instead rely on the information in market prices to help build their portfolios (see question 5 for more on this).



The Key Questions for the Long Term Investor Exhibit 1

Source: In British pound sterling. Source: Dimensional, using data from Bloomberg LP. Includes primary and secondary exchange trading volume globally for equities. ETFs and funds are excluded. Daily averages were computed by calculating the trading volume of each stock daily as the closing price multiplied by shares traded that day. All such trading volume is summed up and divided by 252 as an approximate number of annual trading days.

2. What are my chances of picking an investment fund that survives and outperforms?

Flip a coin and your odds of getting heads or tails are 50/50. Historically, the odds of selecting an investment fund that was still around 15 years later are about the same. Regarding outperformance, the odds are worse. The market’s pricing power works against mutual fund managers who try to outperform through stock picking or market timing. As evidence, only 14% of US equity mutual funds and 13% of fixed income funds have survived and outperformed their benchmarks over the past 15 years. 



 US-Based Mutual Fund Performance

Source: Mutual Fund Landscape 2017, Dimensional Fund Advisors. See Appendix for important details on the study.

Past performance is no guarantee of future results.

3. If I choose a fund because of strong past performance, does that mean it will do well in the future?

Some investors select mutual funds based on past returns. However, research shows that most funds in the top quartile (25%) of previous three-year returns did not maintain a top-quartile ranking in the following three years. In other words, past performance offers little insight into a fund’s future returns. 



Percentage of Top-Ranked Funds That Stayed on Top

Source: Mutual Fund Landscape 2017, Dimensional Fund Advisors. See Appendix for important details on the study.

Past performance is no guarantee of future results.

4. Do I have to outsmart the market to be a successful investor?

Financial markets have rewarded long-term investors. People expect a positive return on the capital they invest, and historically, the equity and bond markets have provided growth of wealth that has more than offset inflation. Instead of fighting markets, let them work for you. 



Growth of a Pound
1956-2017 (compounded annually)

In British pound sterling. UK Small Cap is the Dimensional UK Small Cap Index. UK Marketwide Value is the Dimensional UK Marketwide Value Index. UK Market is the Dimensional UK Market Index. UK Treasury Bills are UK One-Month Treasury Bills. UK Inflation is the UK Retail Price Index. The Dimensional and Fama/French Indices reflected above are not “financial indices” for the purpose of the EU Markets in Financial Instruments Directive (MiFID). Rather, they represent academic concepts that may be relevant or informative about portfolio construction and are not available for direct investment or for use as a benchmark. Their performance does not reflect the expenses associated with the management of an actual portfolio. Index returns are not representative of actual portfolios and do not reflect costs and fees associated with an actual investment. Actual returns may be lower. See below for descriptions of the Dimensional and Fama/French indexes.

Past performance is no guarantee of future results.

5. Is there a better way to build a portfolio?

Academic research has identified these equity and fixed income dimensions, which point to differences in expected returns among securities. Instead of attempting to outguess market prices, investors can instead pursue higher expected returns by structuring their portfolio around these dimensions.



Dimensions of Expected Returns
Key Questions for Long-Term Investors - Exhibit 5

Relative price is measured by the price-to-book ratio; value stocks are those with lower price-to-book ratios. Profitability is measured as operating income before depreciation and amortisation minus interest expense scaled by book. 

6. Is international investing for me?

Diversification helps reduce risks that have no expected return, but diversifying only within your home market may not be enough. Instead, global diversification can broaden your investment opportunity set. By holding a globally diversified portfolio, investors are well positioned to seek returns wherever they occur. 


Number of holdings and countries for the MSCI United Kingdom Investable Market Index (IMI) and MSCI ACWI (All Country World Index) Investable Market Index (IMI) as at 31 December 2017. MSCI data © MSCI 2018, all rights reserved. International investing involves special risks such as currency fluctuation and political instability. Investing in emerging markets may accentuate these risks.

7. Will making frequent changes to my portfolio help me achieve investment success?

It’s tough, if not impossible, to know which market segments will outperform from period to period.

Accordingly, it’s better to avoid market timing calls and other unnecessary changes that can be costly. Allowing emotions or opinions about short-term market conditions to impact long-term investment decisions can lead to disappointing results.



Annual Returns by Market Index
The Key Questions for the Long Term Investor Exhibit 7

In British pound sterling. UK Equities is the MSCI United Kingdom Index (gross dividends). Developed Markets ex UK is the MSCI World ex UK Index (gross dividends). Emerging Markets is the MSCI Emerging Markets Index (gross dividends). Global Real Estate is the S&P Global REIT Index (gross dividends). UK Treasury Bills are UK One-Month Treasury Bills. Government Bonds is the FTSE World Government Bond Index (hedged to GBP). Short-Term Government Bonds is the FTSE World Government Bond Index 1–5 Years (hedged to GBP). Global Credit is the Bloomberg Barclays Global Aggregate Credit Bond Index (hedged to GBP). MSCI data © MSCI 2018, all rights reserved.

S&P data © 2018 S&P Dow Jones Indices LLC, a division of S&P Global. All rights reserved. 1975–present: UK One-Month Treasury Bills provided by the Financial Times. Prior to 1975: UK Three-Month Treasury Bills provided by the London Share Price Database. FTSE fixed income indices © 2018 FTSE Fixed Income LLC. All rights reserved. Bloomberg Barclays data provided by Bloomberg.

Past performance is no guarantee of future results.


8. Should I make changes to my portfolio based on what I’m hearing in the news?

Daily market news and commentary can challenge your investment discipline. Some messages stir anxiety about the future, while others tempt you to chase the latest investment fad. If headlines are unsettling, consider the source and try to maintain a long-term perspective

Key Questions for Long-Term Investors - Exhibit 8

 9. So, what should I be doing?

Work closely with a financial adviser who can offer expertise and guidance to help you focus on actions that add value. Focusing on what you can control can lead to a better investment experience.

  • Create an investment plan to fit your needs and risk tolerance.
  • Structure a portfolio along the dimensions of expected returns.
  • Diversify globally.
  • Manage expenses, turnover, and taxes.
  • Stay disciplined through market dips and swings. 

If you are not already working with a financial adviser, use our tool to locate one near you.

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APPENDIX


Question 2: The sample includes funds at the beginning of the 15-year period ending December 31, 2017. Each fund is evaluated relative to the Morningstar index assigned to the fund’s category at the start of the evaluation period. So, if, for example, a fund changes from Large Value to Large Growth during the evaluation period, then its return will still be compared to the Large Value category index. Surviving funds are those with return observations for every month of the sample period. Winner funds are those that survived and whose cumulative net return over the period exceeded that of their respective Morningstar category index. 

 

Question 3: This study evaluated fund performance persistence over rolling periods from 2001 through 2017. Each year, funds are sorted within their category based on their previous three-year total return. Those ranked in the top quartile (25%) of returns are evaluated over the following three-year period. The chart shows the average percentage of top-ranked equity and fixed income funds that kept their top ranking in the subsequent period.

 

Questions 2 and 3: US-domiciled open-end mutual fund data is from Morningstar and Center for Research in Security Prices (CRSP) from the University of Chicago. Index funds and fund-of-funds are excluded from the sample. See Dimensional's “Mutual Fund Landscape 2018” for more detail, including Morningstar categories included in the fund samples. Past performance is no guarantee of future results.




RISKS

Investments involve risks. The investment return and principal value of an investment may fluctuate so that an investor’s shares, when redeemed, may be worth more or less than their original value. Past performance is not a guarantee of future results. There is no guarantee strategies will be successful.


Dimensional does not give financial advice. You are responsible for deciding whether an investment is suitable for your personal circumstances, and we recommend that a financial adviser helps you with that decision.


Dimensional makes no representation as to the suitability of any advisor, and we do not endorse, recommend, or guarantee the services of any advisor. We urge you to carefully evaluate any advisor whom you may consider hiring. We will not supervise or monitor an advisor's activities or your account, nor are we responsible for the performance of your investments. We disclaim any responsibility or liability for any damages arising from your decision to engage the services of an advisor.


All expressions of opinion are subject to change. This content is distributed for informational purposes, and it is not to be construed as an offer, solicitation, recommendation, or endorsement of any particular security, products, or services.


Issued by Dimensional Fund Advisors Ltd. (DFAL), 20 Triton Street, Regent’s Place, London, NW1 3BF. DFAL is authorised and regulated by the Financial Conduct Authority (FCA).


Indices are not available for direct investment. Their performance does not reflect the expenses associated with the management of an actual portfolio. Past performance is not a guarantee of future results. Diversification does not eliminate the risk of market loss.