TAILIEUCHUNG - Enhanced versus Passive Mutual Fund Indexing: Has DFA Outperformed Vanguard by Enough to Justify its Advisor and Transaction Fees?

The laws of random chance, however, also indicate that, after a period of above-average performance, a fund will probably return to normalcy at best (referred to by mathematicians as a "reversion to the mean"). 2 Furthermore, after an influx of new money, the fund's outlook may be even less promising than normal. The formerly successful fund may be more likely than other funds to underperform. The source of the underperformance. | Enhanced versus Passive Mutual Fund Indexing Has DFA Outperformed Vanguard by Enough to Justify its Advisor and Transaction Fees 2008 draft. A revision of this paper is forthcoming in the Journal of Investing with an expected publication date of winter 2009. Edward Tower Cheng-Ying Yang Edward Tower is a professor at Duke University in Durham NC. tower@. Cheng-Ying Yang is a PhD candidate in economics at the University of Wisconsin Madison. Abstract Passive and enhanced index funds are two important options for investors. Vanguard is the largest provider of passive indexed funds and DFA is one of the major providers of enhanced indexed funds with uniquely close ties to academic financial research and an illustrious board of directors. Vanguard has low fees and investors can buy Vanguard funds directly. DFA s fees are higher and one can invest in DFA funds only through an advisor who charges for the service. Moreover one must pay transactions fees to a custodian. We ask whether DFA has outperformed Vanguard by enough to justify the additional fees. Passive and enhanced index funds are two important options for investors. It is worthwhile to compare the performance of the two and such a comparison is best between particularly reputable fund families offering these instruments. Vanguard is the largest provider of passive indexed funds and it has low fees. DFA is one of the major providers of enhanced indexed funds using stock screens which are unique to them with uniquely close ties to academic financial research and an illustrious board of directors including Eugene Fama Kenneth French Roger Ibbotson Robert Merton and Myron Scholes . Thus a comparison between the two families is instructive. Investors can buy Vanguard funds directly. DFA s fees are higher and one can invest in DFA funds only through an advisor who charges for the service. Moreover with DFA one must pay transactions fees to a custodian for periodic rebalancing. We

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