Lower Your Expectations as Mutual Fund Performance Soars

by Dan Wiener | November 13, 2013 11:32 am

As you check out new funds or check on your holdings this month, you might get what seems like a pleasant surprise — five-year returns are way up. Take that mutual fund performance with a grain of salt, though. With October 2013′s end, five-year returns are now completely rid of the horrific month of October 2008, and the numbers are soaring artificially[1].

To give you a sense of how crazy the gains in performance will appear, consider some of the Vanguard funds I regularly follow. Vanguard MidCap Value Index Fund’s (VMVIX[2]) five-year return is jumping from 12.7% to 19.6%. Vanguard 500 Index Fund’s (VFINX[3]) five-year return leaps from 9.9% to 15.0%. Among sector funds, Vanguard Precious Metals & Mining Fund (VGPMX[4]) goes from a loss of 6.8% per annum over five years to a gain of 3.3%, and Vanguard REIT Index Fund’s (VGSIX[5]) five-year return more than doubles from 6.2% to 15.5%. Vanguard International Explorer Fund (VINEX[6]), which showed a 10.2% five-year return in September, now has a 17.4% gain.

On average, Vanguard’s diversified domestic equity funds will see a wholesale 5.2 percentage point increase in five-year returns. Does it matter? Sure. Take 500 Index: At 9.9%, an investor starting with $10,000 would have over $6,000 in gains after five years. But compound that $10,000 at 15.0%, and your gains explode to more than $10,100.

And it’s not as if three-year returns will give investors pause. Those numbers are also astronomical.
11 11 13 rolling return Lower Your Expectations as Mutual Fund Performance Soars [7]

The bottom line in my book is that you simply can’t rely on point-in-time numbers to tell you how a fund (or any investment for that matter) has performed. You need to use rolling returns — which is something I highlight in my newsletter on a regular basis — to understand how the typical investor, rather than one who invested only at the beginning of the point-in-time period, has done.  For the huge ‘gains’ in five-year returns, keep that salt shaker close at hand.
Senior Editor Dan Wiener and Editor/Research Director Jeffrey DeMaso publish The Independent Adviser for Vanguard Investors[8], a monthly newsletter that keeps abreast of recent developments at Vanguard, and the annual FFSA Independent Guide to the Vanguard Funds.

Endnotes:
  1. numbers are soaring artificially: http://online.barrons.com/article/SB50001424053111904462504579137160841098016.html
  2. VMVIX: http://studio-5.financialcontent.com/investplace/quote?Symbol=VMVIX
  3. VFINX: http://studio-5.financialcontent.com/investplace/quote?Symbol=VFINX
  4. VGPMX: http://studio-5.financialcontent.com/investplace/quote?Symbol=VGPMX
  5. VGSIX: http://studio-5.financialcontent.com/investplace/quote?Symbol=VGSIX
  6. VINEX: http://studio-5.financialcontent.com/investplace/quote?Symbol=VINEX
  7. [Image]: http://investorplace.com/wp-content/uploads/2013/11/11-11-13-rolling-return.gif
  8. The Independent Adviser for Vanguard Investors: http://investorplace.com/order/?sid=HK8361

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