“The Cost of Active Investing” French (2008)

by vonNudge

This paper estimates the unnecessary costs of active investing as 0.67% of invested assets per year compared to passive investment alternatives. Framed as a dollar cost, this equals $330 per year for every person in the US. The average investor’s mistakes really are expensive.

This paper doesn’t dwell long on potential causes, but does briefly mention the canonical behavioural finance cause: overconfidence. Yes many people are overconfident, but the consensus in favour of overconfidence is perhaps less unanimous in the psychological literature than some might expect. My personal opinion is that the many unique features of financial decision-making – payoffs spread over years and decades, shrouded costs, exponential compounding – are both more plausible and potentially more treatable than overconfidence. What this paper does show, though, is that the cost of personal investing as currently practiced is very high.