Ask Matt: Fees make beating index tough to do

USA TODAY markets reporter Matt Krantz answers a different reader question every weekday. To submit a question, e-mail Matt at mkrantz@usatoday.com.

Q: How good must a stock-picker be to beat the index?

A: Jack Bogle built an entire financial empire at Vanguard on the concept beating the market is all but impossible over the long term. But that doesn't stop stock pickers and professional money managers from trying to beat the odds.

But do stock pickers have a shot? After all, it's pretty tough to beat the indexes. Investors who simply invested in the market, measured by the MSCI USA equity index, between January 1970 and December 2012 scored an average annual gain of 9.6%. That return consisted of 3.37% coming from dividends and 6.26% in capital gains, according to research from Greenline Partners.

But to keep up with the index return, stock pickers need to do much better than 9.6%. Since active traders tend to buy and sell more frequently, they have to generate a return of 11% on average a year just to achieve the same after-tax returns as the index,Greenline Partners says.

Investors who simply buy the indexes also get big discounts on fees, which are one of the biggest killers of returns. The average management fees for investors just buying the indexes is 0.05%, Greenline says, well below the average 1% annual fee of active investors and 2% annual fee charged by hedge funds. The bottom line: beating the market may be remotely possible, but it's highly unlikely.

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Follow Matt Krantz on Twitter: @mattkrantz.