Fund Investors To Blame For Poor Returns, Ray of Hope Shines
July 19, 2007
Fund investors have a nasty habit of buying high and selling low. We have been noting this phenomenon since 1999 and invented a measure of real fund shareholder returns to capture the gap between how well a typical fund investors does compared to the funds they invest in.
A Wall Street Journal article covering a report issued by Dalbar Inc. once again highlights how poorly fund investors perform compared to the market.
The 2007 report found that while the past 20 years have been a boon to the mutual-fund industry, the average investor has earned only a fraction of the market's results. That's because mutual-fund performance is based on an investment held throughout a specific time period -- one, three, five, 10 years, etc. -- but investors frequently don't hold the funds for the entire period. Instead, they pour in cash as markets rise and start a selling frenzy after a decline. In addition, new funds, funds that surge in popularity and funds that close, may cause investors to switch or withdraw their money, which can lower returns, depending on when they occur."
Shockingly, "The average equity fund investor's 20-year annualized return jumped to 4.3% from 3.9% in 2006". In other words, because of bad timing, fund investors may have done better in a low risk and low fee money market fund.
One possible salvation discussed in the article is asset allocation funds – funds that own a mix of stocks, bonds and cash. These funds tend to be boring for most investors as they never show up on top performance lists. However, less volatile returns means performance chasing fund investors are less likely to make ill-timed buys and sells.
While buying a low fee asset allocation fund and falling asleep at the wheel is generally superior to chasing hot funds and fund categories, the good people of MAXfunds feel a more active fund investor can increase their returns by essentially doing the opposite of the fund investing herd – buying good funds in fund categories others avoid, increasing allocations to stock funds in general when other investors are scared, and cutting back on stock funds when optimism is high.
Fund investors have a nasty habit of buying high and selling low. We have been noting this phenomenon since 1999 and invented a measure of real fund shareholder returns to capture the gap between how well a typical fund investors does compared to the funds they invest in.
A Wall Street Journal article covering a report issued by Dalbar Inc. once again highlights how poorly fund investors perform compared to the market.
The 2007 report found that while the past 20 years have been a boon to the mutual-fund industry, the average investor has earned only a fraction of the market's results. That's because mutual-fund performance is based on an investment held throughout a specific time period -- one, three, five, 10 years, etc. -- but investors frequently don't hold the funds for the entire period. Instead, they pour in cash as markets rise and start a selling frenzy after a decline. In addition, new funds, funds that surge in popularity and funds that close, may cause investors to switch or withdraw their money, which can lower returns, depending on when they occur."
Shockingly, "The average equity fund investor's 20-year annualized return jumped to 4.3% from 3.9% in 2006". In other words, because of bad timing, fund investors may have done better in a low risk and low fee money market fund.
One possible salvation discussed in the article is asset allocation funds – funds that own a mix of stocks, bonds and cash. These funds tend to be boring for most investors as they never show up on top performance lists. However, less volatile returns means performance chasing fund investors are less likely to make ill-timed buys and sells.
While buying a low fee asset allocation fund and falling asleep at the wheel is generally superior to chasing hot funds and fund categories, the good people of MAXfunds feel a more active fund investor can increase their returns by essentially doing the opposite of the fund investing herd – buying good funds in fund categories others avoid, increasing allocations to stock funds in general when other investors are scared, and cutting back on stock funds when optimism is high.