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ETF Specialist

Keep Your Focus on Fees

Our semi-annual Active/Passive barometer shows that expenses are one of the only reliable predictors of success, writes Morningstar’s Ben Johnson.

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A version of this article was published in the April 2016 issue of Morningstar ETFInvestor. Download a complimentary copy of ETFInvestor by visiting the website.

In his book “Thinking, Fast and Slow,” [1] Nobel Prize winning psychologist Daniel Kahneman discusses how he stumbled upon two different approaches to forecasting while working for Israel’s Ministry of Education to write a high school textbook about judgment and decision-making. Kahneman and his longtime collaborator, Amos Tversky, ultimately branded these two schools of forecasting “the inside view” and “the outside view.” The inside view is deeply personal. In constructing a forecast based on the inside view, we focus very narrowly on our own unique experiences and situation and extrapolate from there. (For example, I’m an above-average driver with a squeaky-clean driving history about to go on a short trip in fair weather. The odds of me getting in a fender bender are almost nil.) On the other hand, a forecast based on the outside view starts with a survey of the broader population and is refined based on any specifics regarding the circumstances. (Start with the odds of any driver getting in a fender bender regardless of driving history, the distance traveled, or weather conditions, and go from there.) The outside view is anchored to a base rate. Kahneman explains the concept of base rates in “Thinking, Fast and Slow”:

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Ben Johnson does not own shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.