4 Year-End Tips to Review Your Mutual Fund Performance

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By Hal Bundrick

It has been said that the way to make money when investing is to "buy low" and "sell high." But how do we actually do that? Take out your last fund performance statement and let's break down an effective way to fine-tune your mutual fund performance and ready your investments for the new year.

1. Today's losers are tomorrow's winners. This may seem counterintuitive, but consider buying into your losers. When reviewing your mutual fund performance for the past year, if you see a couple of mutual funds that appear to be poor performers, they may be strong contenders for additional purchases when you rebalance.

When it comes to mutual fund performance, today's losers are quite likely tomorrow's winners. S&P Dow Jones Indices issues a "Persistence Scorecard" twice a year, tracking the consistency of top-performing mutual funds from year to year. It has found that very few funds can stay at the top over a long period of time. Of the 692 funds that were in the top 25 percent in performance as of September 2011, only 7.2 percent managed to stay in the top 25 percent as of the end of September 2013.

2. You can automatically buy low and sell high. Automatically buying low and selling high is simply a matter of resetting your investments back to their initial targets, at least once per year. %VIRTUAL-article-sponsoredlinks%That assumes you had an initial strategy that was based on your goals and fears. Your goal could be saving for retirement. That requires a different investing approach than saving for your daughter's or son's college education.

And your level of fear plays a major role, too. How would you react if your mutual funds dropped 30 percent in value over just six months? You should know your appetite for risk, which financial advisers call a "risk profile."

If you started with a sound investment strategy, you want to keep that plan on track. If your international fund started out as 10 percent of your total investment pool but is now at 20 percent, you want to consider selling off that extra 10 percent and putting it into the funds that are now below their initial target. By doing that, you're forcing yourself to buy low and sell high.

3. Consider the impact of fees. Most likely, your statement includes a couple of charts. One may be a pie chart showing your investment mix, or allocation. That information is useful in helping you rebalance your portfolio.

Another chart may show performance over a period of time compared to an index, like the Standard & Poor's 500 index, or even better, to a custom benchmark that is relevant to your portfolio's strategy. For example, if your portfolio is made up of 70 percent stocks and 30 percent bonds, your investment performance would be compared to a 70/30 composite index.

We are also looking for a substantial underperformance relative to the benchmarks. Of course, we hope to see outperformance where we're killing the indices, but if we're just close, it's not a problem. However, if your portfolio is really lagging, it could be due to fees. That's when you want to talk to your broker, financial adviser, human resources department, retirement plan sponsor or whoever else is offering these investment choices to you. High fees are the single biggest drag on performance, and if that's the case with your portfolio, you want to fix it as soon as you can.

4. It's a matter of category. A final consideration should be category. Each mutual fund in your portfolio is built for a particular purpose. The fund could exist to invest in big, American companies or to invest in the industries shaping growing economies overseas. These objectives are referred to as a mutual fund's investment style. Financial advisers will use terms like "large-cap growth" or "emerging market" mutual funds to describe those funds.

You want to make sure that each fund you own is pulling its own weight by doing its own job, not duplicating what another fund is targeting. Mutual fund profiles can show you a fund's category, as well as what sectors the fund is investing in, its top 10 holdings and more.

With each fund reviewed for its category, your portfolio passing the fee fitness test and rebalancing setting you up to buy low and sell high, you're ready to ring in 2014.

Hal M. Bundrick is a certified financial planner and former financial adviser and senior investment specialist for Wall Street firms. He writes about retirement accounts and personal finance for NerdWallet. Follow him on Twitter: @HalMBundrick.


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4 Year-End Tips to Review Your Mutual Fund Performance

Warren Buffett is a great investor, but what makes him rich is that he's been a great investor for two thirds of a century. Of his current $60 billion net worth, $59.7 billion was added after his 50th birthday, and $57 billion came after his 60th. If Buffett started saving in his 30s and retired in his 60s, you would have never heard of him. His secret is time.

Most people don't start saving in meaningful amounts until a decade or two before retirement, which severely limits the power of compounding. That's unfortunate, and there's no way to fix it retroactively. It's a good reminder of how important it is to teach young people to start saving as soon as possible.

Future market returns will equal the dividend yield + earnings growth +/- change in the earnings multiple (valuations). That's really all there is to it.

The dividend yield we know: It's currently 2%. A reasonable guess of future earnings growth is 5% a year. What about the change in earnings multiples? That's totally unknowable.

Earnings multiples reflect people's feelings about the future. And there's just no way to know what people are going to think about the future in the future. How could you?

If someone said, "I think most people will be in a 10% better mood in the year 2023," we'd call them delusional. When someone does the same thing by projecting 10-year market returns, we call them analysts.

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Meanwhile, the average equity market neutral fancy-pants hedge fund lost 4.7% of its value over the same period, according to data from Dow Jones Credit Suisse Hedge Fund Indices. The average long-short equity hedge fund produced a 96% total return -- still short of an index fund.

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Most investors understand that stocks produce superior long-term returns, but at the cost of higher volatility. Yet every time -- every single time -- there's even a hint of volatility, the same cry is heard from the investing public: "What is going on?!"

Nine times out of ten, the correct answer is the same: Nothing is going on. This is just what stocks do.

Since 1900 the S&P 500 (^GSPC) has returned about 6% per year, but the average difference between any year's highest close and lowest close is 23%. Remember this the next time someone tries to explain why the market is up or down by a few percentage points. They are basically trying to explain why summer came after spring.

Someone once asked J.P. Morgan what the market will do. "It will fluctuate," he allegedly said. Truer words have never been spoken.

The vast majority of financial products are sold by people whose only interest in your wealth is the amount of fees they can sucker you out of.

You need no experience, credentials, or even common sense to be a financial pundit. Sadly, the louder and more bombastic a pundit is, the more attention he'll receive, even though it makes him more likely to be wrong.

This is perhaps the most important theory in finance. Until it is understood you stand a high chance of being bamboozled and misled at every corner.

"Everything else is cream cheese."
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