Warning: short-term performance analysis can be dangerous to your wealth. Dr Benjamin Holdsworth explains why disciplined exposure to risk will reap rewards.
Sometimes we read an investment article that causes much frustration. One regular such item is Bestinvest’s ‘Spot the dog – the guide fund managers would love to ban’ report.
This report would be laughable if it did not have such a potentially serious impact on investors’ wealth.
It is often quoted in the Sunday papers and can influence many DIY investors – those who do not seek advice – in their fund buy and sell decisions, despite the caveats that Bestinvest provides.
It can also unsettle sensible long-term investors if they see a fund on the list that their adviser has recommended.
While we have no problem calling out poor value for money in funds – which is far too common – the methodology used to identify ‘dogs’ is blunt to the point of being unhelpful.
In essence, a ‘dog’ fund is one that has underperformed a Bestinvest nominated market benchmark by a cumulative 5% over the past three years.
From an investment perspective, three-year performance is riddled with market noise and is too short a time frame to make any decision based on performance.
In fact, you need around 16 years of data to be able to distinguish skill from luck. Most investors have long investment time horizons of, say, ten, 20 or even 30 years or more.
This provides the luxury of being able to take evidenced-based, strategic decisions around which to build portfolios, also known as systematic investment.
Systematic investors will base their decisions on empirical evidence which points to higher expected returns that may be captured over the sorts of horizon investors hold.
In its 2021 report – data to December 2020 – Bestinvest included a particular fund as one of the ‘Biggest beasts in the Spot the Dog by fund size’ category.
It may have met its three-year criteria, but this fund does not simply try to track the emerging market index, but holds long-term, strategically-allocated stocks. For the longer-term investor, that can be exceptionally valuable.
When looking at market data at the end of June 2022, 18 months after the report was published, we can check how the fund actually performed against its peer group. In fact, the fund beats the market index and the peer group average.
The annual SPIVA Report tracks the performance of actively managed funds in relation to those which are ‘passively’ managed.
In the 2022 edition, it reveals that 93% of all actively managed emerging market funds in the US failed to beat the emerging market benchmark over 20 years to the end of 2021. Not bad for a so-called ‘dog’ fund.
Perhaps ironically, the highly concentrated, growth stock-oriented active investment trust that heads the ‘pedigree’ list for best global equity performers in the 2022 report (data to December 2021) has fallen almost 50% from its high in November 2021.
Remember that going up 100% followed by going down 50% puts you back where you started. This fund has fallen almost 40% since the report was published. In comparison, the global market was down around 11% to the end of June 2022.
Once again, we are reminded that we should ignore the noise of short-term performance and be very wary of buy and sell ‘charts’ that use such data to create fund rankings.
Dr Benjamin Holdsworth (right) is a director of Cavendish Medical, specialist financial planners helping consultants in private practice and the NHS
The content of this article is for information only and must not be considered as financial advice. Cavendish Medical always recommends that you seek independent financial advice before making any financial decisions.
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