DAL President Janet Brown is a contributor to the Forbes Investor Team blog, Intelligent Investor. The following was excerpted from her post, Staying Local with Your Funds.
Many investors focus on long term performance records when selecting mutual funds. I believe investors are better off choosing funds by near-term performance because the funds that have done well over the near-term tend to do well in ensuing months, a phenomenon called ‘persistence of performance’.
Our research shows that the longer term the performance period was, the less predictive it was. According to our most recent study: even including 2008’s brutal declines, our combination of using an average of a fund’s trailing 1, 3, 6, and 12-month returns still led to higher returns than selecting funds by their 3 or 5 year records.
(Click on the chart to see it in a larger format.)
For this 10+ year time period ending 8/31/2009, a portfolio that invested based on a fund’s 1, 3, 6, and 12-month returns produced 8.06% annualized, while investing in the funds with the top 3-year returns only gained an annual 2.23%. Using trailing 5-year records to select funds returned just 1.34% annualized. All of these Upgraded portfolios beat the market, however: the S&P 500 had an annualized return of negative 0.2% for this time period.
The chart only looks at the last 10+ years, but it reflects what we’ve experienced over the past 40 years and what academic research has confirmed: near term mutual fund performance is predictive.
But while near term performance can tell us where to invest now, it can’t predict how long the current trend will last and it doesn’t forecast future market changes. Following near term performance over time leads to better performance, but it doesn’t always outperform. No system can promise that.
