Interesting chart from The Economist (subscription) demonstrating why “past performance is not indicative of future results,” is such a truism in investment management. When S&P analyzed how the best performing (top quartile) active funds in a given year performed in future years, well, let’s just say, there wasn’t much persistence: 

In fact, as the chart shows, about 25% of these “top performing” funds stayed in the top quartile the next year, less than 5% 2 years later and almost none in 2016 and 2017. When it did a similar analysis but over a longer time frame (5 years), it found that only about 22.4% of the top performing funds from the initial five year period persisted as top performing funds in the subsequent five year period.

The article investigates the three reasons why top managers don’t typically stay atop the heap over the long term:

• Success leads to more assets coming into the funds which ends up diluting the best ideas that the manager has
• Managers have specific styles that come in and out of vogue, so while a “value approach” might work in some markets it may not during other periods of time
• Outperformance is simply the result of luck. Given the tens of thousands of “professionals,” who are well-educated, devoted to company research and well-compensated, it is hard to get an edge.

So, the next time, you see that hot-shot manager gracing the cover of your favorite personal finance magazine (does anyone still read those?), remember that “past performance is not indicative of future results!”

_________

Looking for creative ways to teach your students about index funds…check out this NGPF Activity: Let’s Make A Mutual Fund!

About the Author

Tim Ranzetta

Tim's saving habits started at seven when a neighbor with a broken hip gave him a dog walking job. Her recovery, which took almost a year, resulted in Tim getting to know the bank tellers quite well (and accumulating a savings account balance of over $300!). His recent entrepreneurial adventures have included driving a shredding truck, analyzing executive compensation packages for Fortune 500 companies and helping families make better college financing decisions. After volunteering in 2010 to create and teach a personal finance program at Eastside College Prep in East Palo Alto, Tim saw firsthand the impact of an engaging and activity-based curriculum, which inspired him to start a new non-profit, Next Gen Personal Finance.