Shame on you Personal Finance for the sensationalist and (very) misleading headline that appeared on lampposts over the weekend…
I know that it referred to the so-called Raging Bull awards that are supposed to celebrate the “best” fund managers but it was a very misleading headline all the same.
I asked a few friends of mine what they thought the headline meant and they all answered along a similar line – if they were looking to buy unit trust funds then they would probably buy the ones to which the headline was referring because they must be the best! Exactly…or not!
One of the first articles I remember reading when I first joined the financial services industry (20 years ago) was a piece that was published (in Personal Finance as far as I can remember) that referred to exactly the danger that the recent headline seems to encourage.
The research involved taking R100000 and investing it over a 5 year period in 5 different scenarios:
- Switching between the top performing funds i.e. choose the best fund in year 1 and then at the end of the year move to the best fund and repeat each year.
- Switching between the worst performing funds i.e. choose the worst fund in year 1 and then at the end of the year move to the worst fund again and repeat each year.
- Staying with the top performing fund i.e. choose the best fund and leave the money for 5 years.
- Staying with the worst performing fund i.e. choose the worst fund and stay with it for 5 years.
- Staying with an average performing fund for the 5 year period.
- In option 1 the R100k grew to R176k (up 76%)
- In option 2 the R100k grew to R183k (up 83%)
- In option 3 the R100k grew to R208k (up 108%)
- In option 4 the R100k grew to R222k (up 122%)
- In option 5 the R100k grew to R358k (up 258%)
The research may be a bit old but I suspect that if it were repeated in 2015 that the results would be very similar. They may appear to be somewhat counter-intuitive but they demonstrate quite a few important investment facts:
- You cant consistently pick the winning fund manager – they change.
- You should not invest based on past performance.
- Switching frequently will cost you in the long run – not only in fees but the managers are also not consistent.
- It is better to be consistently average than to be at either extreme of the spectrum.
- Investing is a zero-sum game – for every winner there is a loser too!
All of these points make a very strong case for making sure that part of your investment planning includes some passive/index funds – they are after all the definition of the above points.