If you read the popular personal finance press, you’d think that mutual fund investing comes down to a choice between index funds and actively managed funds.

Those who favor indexing love to point out how few actively managed funds beat their benchmarks each year, and of those that do, how few can sustain their success. Those who favor actively managed funds stick to their beliefs that in the hands of a good manager, an actively managed fund really can beat the market.

To a casual observer, indexers seem to have the facts on their side. For example, consider a recent study by S.&P. Dow Jones Indices. It found that just two out of 2,862 actively managed mutual funds whose performance put them in the top 25% of those funds five years ago stayed in the top 25% for each of the next four years.

A New York Times article about the actively managed mutual funds study said it “provides new arguments for investing in passively managed index funds.”

But does it? The article actually highlights the typical way the financial press writes about mutual fund investing—that there are only two paths: index funds or buying and holding actively managed funds.

Sound Mind Investing members know there’s a third path: using objective, mechanical guidelines to actively manage a portfolio of actively managed funds. That’s what we do with Fund Upgrading.

Our recommended funds are those that are currently winning—those with the highest momentum based on recent past performance. But we have no expectation that those funds will continue to outperform indefinitely. And in fact, when a fund’s momentum wanes, it is replaced with a fund showing stronger momentum.

It’s a strategy that has generated very satisfying, long-term market-beating returns.

Long-time SMI members may take the third path for granted. But especially for newer members, it’s important to keep the distinction of this third path in mind—especially since the typical reporting about mutual fund investing seems capable only of seeing the two paths of index funds or actively managed funds.

With apologies to Robert Frost,

Three roads diverged in a wood, and I— I took the one less traveled by, And that has made all the difference.
When you read the usual debates between index funds and actively managed funds, do you ever remind yourself that there’s a third path for mutual fund investors?