The latest round of research, which confirms decades of academic findings, suggests you should avoid top-rated funds. They rarely repeat their best years.
According to a new study by Baird Wealth Management Research, not only do mutual fund ratings not predict future performance, they may be reliable red lights that should warn you against buying a fund.
Baird analyst Aaron Reynolds asked the question “do fund ratings predict future performance?” Here’s what he found:
* For US stock funds, the research found that ratings were negatively predictive of future performance, e.g. a high rated fund will perform worse than a low rated fund.”
How do you explain these results? Often, when a stock fund manager has a good year, it’s due to chance. ” 1
Track Record Investing
This is called Track Record Investing. This is one of the myths of investing that Mark Matson talks about all of the time. 5 star mutual funds are the funds that have a great track record over the past few years and that seem to get everything right. But check out this chart that further proves that Track Record Investing gives you below market returns. 2.
So the “top 30” funds from 2004 to 2008 beat the market as a whole by about 6%. So lets say you read a magazine or saw a headline that said to invest in one of these funds that “continually beats the market”. You decide to do it. 2009 through 2013 come, and your fund gets beat by the market by 13% annually for 4 years. That’s over 50% total growth that you missed out on.
This chart is just one of many scenarios of proof that Track Record Investing is detrimental to your long term retirement portfolio. Don’t fall for the hot mutual fund headlines.
by Jimmy Hancock
1. Wasik, John. “Why You Shouldn’t Buy a Highly-Rated Mutual Fund.” Forbes. Forbes Magazine, 24 Mar. 2014. Web. 26 Mar. 2014. <http://www.forbes.com/sites/johnwasik/2014/03/24/why-you-shouldnt-buy-a-highly-rated-mutual-fund/>.
2. Matson Money. Separating Myths From Truths, The Story of Investing. N.p.: n.p., n.d. PDF.