“You’d have nothing left to write about if everyone did this,” someone leaned over and whispered to me during the U.S. premier of Dimensional Fund Advisor’s new documentary “Tune Out The Noise” earlier this month at the Roxy Hotel in New York. And there is an element of truth to it.
Established financial economic theory finds that stock markets are efficient, constantly adjusting to new information. As a result, investing in the market as a whole will generate higher returns than stock picking, which relies on finding errors in prices. Yet, the asset management industry has evolved by ignoring this, with thousands of firms claiming to have strategies that can beat the averages. Earlier this month II published an article on active equity managers’ struggle to justify fees that are higher than passive funds. The S&P Dow Jones Indices’ annual SPIVA U.S. Scorecard shows that 65 percent of all active large-cap U.S. equity funds underperformed the S&P 500 in 2024.
Dimensional Fund Advisors has taken the opposite approach since its formation in 1981, as the new documentary outlined. The film tells the story of how co-founders David Booth and Rex Sinquefielda leveraged the academic theories on market efficiency that flowed out of the University of Chicago’s Graduate School of Business to permanently alter the status quo on Wall Street. It follows the story of the conception of the index fund, now an integral component of investing of course, and how the firm demonstrated that market efficiency and passive investments would outperform an active approach over time.
Following the stories of fifteen key players through interviews, including multiple Nobel laureates, the film documents the trajectory of finance from the early 1960s when Chicago developed the first database of securities prices, allowing researchers to analyze the performance of the markets, and the efficient market hypothesis.
Played to a packed theater in New York’s Soho neighborhood that included several notable faces, the film preceded a full panel discussion that included four of the characters in the documentary.
Robert Merton, distinguished MIT professor and winner of the Nobel prize for economics in 1997 for his work alongside fellow cast member Myron Scholes, said that what the film excelled at was showing the notion of challenging “what was taken as gospel at the core of finance at the time.” Trying to sell index funds initially was tricky. “Walking into a room to say that it is prudent and wise to buy five hundred stocks where you don’t know where they are located, let alone what they do, and that you haven’t looked at their balance sheet,” he said.
“One of the things the film does well, among many, is to give you the sense that at the time it was not a slam dunk, it was all very strange,” he added. “It helps people to understand what the objectives were. It’s a story, it’s not a bunch of numbers or someone showing you something. And so I think that was a really important thing toward the goal.” Merton added that although the people in the film may not always be here, “but this is on film forever.”
Redefining Investment Advise
Yale Professor Roger Ibbotson, also a Chicago alum, agreed and said that simply understanding that the markets are efficient makes life much easier. But very few people recognized this in the 1970s, when the options pricing model that demonstrated how to segment, quantify and manage risk was developed (and for which Merton and Scholes won the Nobel prize).
“I was with David Booth in Eugene Fama’s class when we first learned about efficient capital markets and we didn’t have any trouble understanding it,” he said. “Everybody is worried about every piece of information that comes out and how to react to it — ‘what should I do?’ I didn’t have to worry about any of that. So to me, it changed my life.”
Redefining investment advice also meant trying to avoid looking into the crystal ball and predicting markets, which was the dominant ethos at the time. The film examines the model of passive investing and how it could change the advisor‘s role in terms of holistic wealth management, including estate and tax planning and charitable giving. For Booth, this allowed the firm to offer a whole new spectrum of advice. But he said most still disagree with the economic theory and assume that they can beat the models despite decades of research suggesting that they likely can‘t.
“What we’re really saying is maybe there are people out there that can do it,” but most investors don‘t have access to these funds, he said. “Just assume that markets are efficient and let academics debate how true that is. This is the message. And once you do that then life gets to be a lot better. You can go home at night and play with your kids (or grandkids for most on this panel) rather than try to analyze stocks and what you are going to do the next day.”
The panel, and the film, drove home the concept of market efficiency, debunking the fact that an investor or a money manager really has an edge and can find opportunities that others have overlooked in the market. Add in high costs, taxes, trading fees, and management fees, and it boils down to a zero- or negative-sum game.
As Merton said on the panel, “the handful of people who probably are able to beat the market, they run out of space for you. So they’re like some rare bird you could look at but you can’t invest with them, so it doesn’t really do anything for the objective,” he said.
Directed by Oscar winner Errol Morris, and targeted to ordinary investors to prove there is a better way to invest, the film is freely available now on YouTube.
