Don’t Get Ripped Off By Mutual Funds

How many mutual funds would you guess outperformed the stock market since the last bull run started nine years ago?

If you guessed 1,000, 100 or even 10, you would be very wrong, and even off by miles. In fact, not a single mutual fund has beaten the market since 2009.  Remember all those expensive, slickly produced TV and magazine ads boasting market beating ratings and top quartiles?  You know, the ones that show an incredibly good looking, but aging couple walking hand in hand into the sunset on a deserted beach?  They all are just so much bunk. The funds mentioned rarely quote performance beyond one or two short years.

Recently, the New York Times studied the performance of 2,862 actively managed domestic stock mutual funds since 2009. It carried out a simple quantitative analysis, looking at how many managers stayed in the top performance quartile every year.

Their final conclusion: zero.  It gets worse…. It is very rare for a mutual fund manager to stay in the top quartile for more than one year. All too often, last year’s hero is this year’s goat, usually because they made some extreme one-sided bet that turned out to be a flash in the pan.  The harsh lesson here is that investing with your foot on the gas pedal going 100 miles per hour and your eyes on the rearview mirror is certain to get you into a fatal crash.


“It is possible that any one of these mutual funds will beat the market over the long term,” … “Some of them will do that. But the problem is that we don’t know which of them will do that in advance.” And that, in a nutshell, is the kernel of the argument for buying index funds.

The NY Times did uncover two funds that stayed at the top for an impressive five years. They turned out to be small cap energy funds that took inordinate amounts of risk to achieve these numbers and have since lost most of their money.
The reasons for the woeful underperformance are legion. Management fees are sky high.  Hidden costs are everywhere. Read the fine print in the prospectus, as I do, and you would be shocked, just shocked.

Real talent is in short supply in the mutual fund industry, with all the real brains decamping to start their own hedge funds and investment advisory services. The inside joke among hedge fund managers is that employment at a mutual fund is proof positive that you are a lousy manager.

Let’s go back to those glitzy TV ads, which cost millions to produce. If you are a mutual fund investor you are paying for all of those, too. They are made at the expense of a lower return on investment on your money. And those sexy performance numbers? They benefit from a huge survivor bias. As soon as fund performance starts to tank, the managers close it, lest it pollute the numbers of other funds in the same family.  The number of funds with good, honest 20-year records can almost be counted on one hand.

Now let me depress you even more. An industry performance this poor under performs random chance. That means chimpanzees throwing darts at the stock pages of the Wall Street Journal would generate a higher investment return that the entire mutual fund industry combined. If you think all of this stuff should be illegal, you are probably correct. But since you watch TV, you have probably been trained to oppose the regulation that would rein in these people. This is what the recent attempt to kill the Dodd-Frank financial regulation bill is all about.

The mutual fund industry complains bitterly that they are overregulated, and they spend millions on lobbyists to get themselves off the hook. By the way, these expenses also come out of your mutual fund performance.

This is why the overwhelming bulk of investors are better off investing in the lower cost ETFs that have become so popular with investors, diversifying holdings among a small number of major asset classes, and then rebalancing as needed to keep the winners in play.

Research Financial Strategies does not charge you with any of our overhead. I am not jacking up what you pay me based on what I spend. I don’t even sell your email address to another online marketer. Being an independent operation of a dozen or so people, I’ll tell you what I don’t have. I lack an investment banking department telling me I have to recommend a stock so we can get the management of their next stock and we don’t have any in-house mutual funds from which we profit more and are required to push.
You just need to pay me a low, flat fee. I don’t need any more.


For over 25 years, Research Financial Strategies has been serving families and businesses as their investment advisor. Let us put our money management expertise to work for you. Set up a consultation by either filing out our contact form or by calling us at 301-294-7500. We are here for you!