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Fund Pillars: Safety And Performance August 13, 2007 - Here's a prime example of why the average investor has his head spinning around trying to make sense out of all the garbage that is floating by. And I'm going to take a little more time to explain what is going on here... and in plenty of other seemingly "informative" articles you'll see. You've got to read this article (actually you have to read EVERY article) very carefully to find the "GOTCHA!!" If you read through this thing in a cursory manner you'll walk away thinking the average mutual fund manager is a genius because they consistently beat the market! But read closely... you'll find a tiny little statement about a third of the way through, in parentheses no less, that tells you that "The returns don't reflect funds that no longer exist." Wait a minute... is there something wrong with this picture?
OK, anybody out there willing to take a WILD
GUESS about which funds might not exist anymore???
I'm guessing that when mutual fund companies decide
to drop a fund, they MUST look over their entire
portfolio and make sure that if they drop a poorly
performing fund, they also drop one of their better
performing funds so the historic returns aren't
skewed to make them look better than they really are.
That's really the only way to present a fair and
honest picture of what has happened, a fair and
honest picture of what their actual performance has
been over time, isn't it? So that MUST be what they
do, right?
Imagine you're a professional golfer and
they institute the "Mulligan Rule" on the pro tour.
Now, weekend golfers know all about Mulligans: you
get to "take back" one shot (sometimes one
shot per each nine holes) and you get to do it
over. Now, imagine that not only do you get
Mulligans, but you can pretty much take a
Mulligan ANY TIME YOU WANT
TO!!!
So any time you screw up a shot, you can
erase that shot from history as if it doesn't exist
anymore. The past has been permanently
altered... the "do-over" has changed
history!
Heck, let me play under those rules and
I'd be right up there with Tiger Woods. But the
problem is, so would everyone else, wouldn't
they?
And that's what you'll see in the data presented in this article. I started reading this article and I was a little dumbfounded. I know (or at least I THOUGHT I knew) from years of research that very, very few mutual funds consistently beat indexes over time for numerous reasons covered in detail elsewhere.
So, I'm reading through this
article and I'm thinking that I might have gone wrong
somewhere, that maybe I missed something. And then the
parentheses came along and explained it all.
When mutual fund companies get
rid of funds, they are taking a "Mulligan" and erasing from
history their worst performing funds. And they can do
that pretty much any time they want to. What effect
would that have on the overall averages for that
company? And if ALL the companies are doing the same thing
(and they are) then wouldn't ALL the averages look
better?
Hmmm... in this case, it shows
that you would have done much, much better if you had been
in actively managed funds rather than in the index. Just
look at the pretty graph at the bottom of the article. And
that's the impression the average reader would be left with
based on the bulk of the text and the title. The
impression is that actively managed funds are better,
period.
The real message is that
actively managed funds may or may not be better - it
all depends... and if you get to take as many Mulligans as
you want, you are now Tiger Woods.
Click the title to read the original
article. It will open in a new window.
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