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Evaluating Underperforming Mutual Funds

Last update on: Mar 14 2020

A key question for investors is what to do with a mutual fund that has a great long-term record but is underperforming. How long should you be patient with the fund before concluding it isn’t going to turnaround? Every great manager, even Warren Buffett, has had periods when he or she underperformed. This article discusses a new study that delves into this question.

Of the 5,500 equity funds that qualified for the study, two thirds had higher returns over that 15-year period than did their costless benchmarks. That is an impressive showing, but it is affected by survivorship bias, as several thousand funds that existed in 2003 disappeared before 2017 concluded. The true winning percentage was probably close to 50%.

Still, that makes for almost 4,000 funds that beat their relevant indexes over a 15-year stretch. Naturally, they did not do so the whole time. At times, every winner was a loser, raising the question: What was the lengthiest period in which these successful funds were unsuccessful? Specifically, what was the longest time that the fund’s gross returns trailed that of its index?



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