Watch Out For Winners and Bill Gross Wannabes

November 25, 2014

Recently an online advertisement for a top bond fund caught our eye. 

Bond fund advertisements are plentiful nowadays. With the sudden departure of Bond King Bill Gross from PIMCO, the fund company's  competitors have upped their marketing budgets in an attempt to snag a share of the investor money that left along with him. They'd probably put a picture of Bill Gross in the ads with photoshopped wings if they could. 

Not that I blame them for trying. But choosing funds based primarily on past performance is probably an even worse idea now than it usually is. The 2007-2009 slide ended just over five years ago. That means all of the funds that invested in the hardest-hit parts of the bond and stock market (namely anything with credit risk, non-government-backed housing debt, financial institutions and engineered products) look pretty good now. The huge slides they took are no longer reflected in their five-year returns, and their above-average rebound from the worst months of the bear market looks more impressive than it actually is.

Yes, Blackrock Total Return Institutional (MAHQX) is in the top 10% of its Lipper category as of 9/30/14 (sort of the mutual fund equivalent of a "best in class" auto rating,) and its performance seems pretty great when you look at its five, three, and one-year returns. 

But add in the fund’s longer-term returns,  and you’ll note that the BlackRock fund hasn’t beaten the bond index that owns essentially every bond in the market, and with significantly less downside risk in the past downturn. 

All of that expensive active Blackrock management expertise gave MAHQX no performance advantage, and a greater downside risk, despite Blackrock being the largest asset manager in the world, with over $4 trillion under management, and employing some of the best fixed income managers around. 

In 2008, Blackrock Total Return Institutional (as in, you probably can’t qualify for this cheaper class, and will settle for a higher-cost/slightly lower-return version) was down 11.31%, compared to the Vanguard Total Bond Market Index Investor Class (VBMFX) – the retail version, with higher fees and  lower minimum required, which gained 5.05%. 

A 16%+ one-year performance gap, like a year spent binging on Krispy Kreme doughnuts, takes time to work off. That's largely why BlackRock has underperformed the bond index over the past ten years. It only recently rose above the average similar bond fund during that period. And the average bond fund is a pretty low benchmark.

And BlackRock, one of the strongest bond active management choices, still isn't really delivering on the advertised outperformance of benchmarks or PIMCO. There are many, many poorer choices in bond funds out there, some of which disappeared after the debt crisis due to lousy returns.

And for the record, Bill Gross’ Total Return Fund – the one these fund families are trying to out-Total Return in marketing – was up (as in, not down) 4.82% in 2008, beating most of these cherry-picking chumps with a much bigger portfolio to trade. 

The Bill Gross fund we owned throughout most of our online portfolio history since 2002 (and in some client accounts until Gross’ departure) – Harbor Bond (HABDX) - has walloped this BlackRock fund.

The takeaway for investors considering active management (as we still do) is this: consider how a fund did during the crash as well as the rebound. Normally, adding in 10-year returns for these post-crash winners is all you need to do to see the bigger picture. For funds launched more than 5 years ago, but less than 10 years ago, consider the since inception returns and take a look at the worst year returns.