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How To Predict Fund Performance (Podcast)

By Ronald Delegge The phrase “past performance is not an indicator of future performance” is a frequently written and spoken legal disclaimer for virtually all investments sold by Wall Street. Yet, hardly anyone from individual investors all the way to investment sales people really act like they believe it. Asset flows inevitably gravitate into funds with the hottest historical performance. And if a fund happens to be christened with a 4 or 5-star rating, the money really pours in. In fact, the very first thing that retail investors and professionals infatuate themselves with is historical performance. The herd mentality with picking mutual funds goes something like this: “The _____________ (fill in the blank) fund has easily outperformed the S&P 500 (NYSEARCA: VOO ) over the past ____________ (fill in the blank) years. It’s a proven winner!” And that’s generally how buy decisions are made. Never mind how the fund’s benchmark is irrelevant or how much risk the fund actually takes or how much the fund charges. None of these petty details matter to the historical performance enamored investor. Yet, people who focus exclusively on past performance are doomed to future underperformance. It’s one of those predictable ironies, that’s confirmed in new research from Morningstar. The study highlights the mistake of emphasizing historical performance. “While we think it makes sense to consider a variety of factors when choosing funds, our research continues to find that fund fees are a strong and dependable predictor of future success,” said Russel Kinnel, chair of Morningstar’s North America ratings committee. In other words, historical performance isn’t a determining factor in future returns. Kinnel added, “We found that the cheapest funds were at least two to three times more likely to succeed than the priciest funds. Strikingly, our finding held across virtually every asset class and time period we examined, which clearly indicates that investors should keep cost in mind no matter what type of fund they are considering.” (You can listen to Ron DeLegge’s full podcast interview with Russel Kinnel on the Index Investing Show. ) Highlights of the Morningstar study include: The lowest-cost U.S. stock funds succeeded three times as often as the highest-cost funds. The least-expensive quintile had a total return success rate of 62%, compared with 48% for the second-cheapest quintile, 39% for the middle quintile, 30% for the second-priciest quintile, and 20% for the most-expensive quintile. International-equity funds had a 51% success ratio for the least-expensive quintile compared with 21% for the most-expensive quintile. Among taxable-bond funds (NYSEARCA: BND ), the least-expensive quintile delivered a 59% success rate versus 17% for the most-expensive quintile. Municipal bond funds (NYSEARCA: MUB ) showed a similar pattern, with a 56% success rate for the least-expensive quintile and 16% for the most-expensive quintile. Disclosure: No positions Link to the original post on ETFguide.com

Best And Worst Q2’16: All Cap Blend ETFs, Mutual Funds And Key Holdings

The All Cap Blend style ranks third out of the twelve fund styles as detailed in our Q2’16 Style Ratings for ETFs and Mutual Funds report. Last quarter , the All Cap Blend style ranked third as well. It gets our Neutral rating, which is based on aggregation of ratings of 71 ETFs and 684 mutual funds in the All Cap Blend style. See a recap of our Q1’16 Style Ratings here. Figures 1 and 2 show the five best and worst rated ETFs and mutual funds in the style. Not all All Cap Blend style ETFs and mutual funds are created the same. The number of holdings varies widely (from 4 to 3694). This variation creates drastically different investment implications and, therefore, ratings. Investors seeking exposure to the All Cap Blend style should buy one of the Attractive-or-better rated ETFs or mutual funds from Figures 1 and 2. Figure 1: ETFs with the Best & Worst Ratings – Top 5 Click to enlarge * Best ETFs exclude ETFs with TNAs less than $100 million for inadequate liquidity. Sources: New Constructs, LLC and company filings State Street SPDR S&P 5000 Buyback ETF (NYSEARCA: SPYB ), iShares Enhanced U.S. Large Cap ETF (NYSEARCA: IELG ), and ProShares Ultra Semiconductors (NYSEARCA: USD ) are excluded from Figure 1 because their total net assets are below $100 million and do not meet our liquidity minimums. Figure 2: Mutual Funds with the Best & Worst Ratings – Top 5 Click to enlarge * Best mutual funds exclude funds with TNAs less than $100 million for inadequate liquidity. Sources: New Constructs, LLC and company filings AMG Renaissance Large Cap Growth Fund ( MRLIX , MRLSX , MRLTX ), Jensen Quality Value Fund ( JNVIX , JNVSX ), and Hays U.S. Opportunity Fund (MUTF: HUOIX ) are excluded from Figure 2 because their total net assets are below $100 million and do not meet our liquidity minimums. ProShares UltraPro Dow30 (NYSEARCA: UDOW ) is the top-rated All Cap Blend ETF and Royce Special Equity Multi-Cap Fund (MUTF: RMUIX ) is the top-rated All Cap Blend mutual fund. Both earn a Very Attractive rating. ProShares Ultra Oil & Gas (NYSEARCA: DIG ) is the worst rated All Cap Blend ETF and Rydex Series Russell 2000 1.5x Strategy Fund (MUTF: RYAKX ) is the worst rated All Cap Blend mutual fund. Both earn a Very Dangerous rating. Nordstrom (NYSE: JWN ) is one of our favorite stocks held by RMUIX and earns a Very Attractive rating. Over the past decade, Nordstrom has grown after-tax profit ( NOPAT ) by 9% compounded annually. Over this time, the company has improved its return on invested capital ( ROIC ) from 9% in 2005 to 11% over the last twelve months. Nordstrom has also generated a cumulative $2.3 billion in free cash flow over the past five years. Despite the underlying fundamentals, JWN remains undervalued. At its current price of $51/share, JWN has a price-to-economic book value ( PEBV ) ratio of 0.9. This ratio means that the market expects Nordstrom’s NOPAT to permanently decline by 10%. If Nordstrom can grow NOPAT by just 5% compounded annually for the next decade , the stock is worth $94/share today – an 84% upside. Molson Coors Brewing Company (NYSE: TAP ) is one of our least favorite stocks held by VGPAX and earns a Dangerous rating. Since 2010, Molson Coors’ NOPAT has declined by 2% compounded annually. The company’s ROIC has fallen from 8% to 6% over this same time frame. Molson Coors has failed to generate positive economic earnings in any year of our model, which dates back to 1998. To justify its current price of $96/share, Molson Coors must grow NOPAT by 10% compounded annually for the next 11 years . This expectation seems overly optimistic given the company’s profit decline since 2010. Figures 3 and 4 show the rating landscape of all All Cap Blend ETFs and mutual funds. Figure 3: Separating the Best ETFs From the Worst Funds Click to enlarge Sources: New Constructs, LLC and company filings Figure 4: Separating the Best Mutual Funds From the Worst Funds Click to enlarge Sources: New Constructs, LLC and company filings D isclosure: David Trainer and Kyle Guske II receive no compensation to write about any specific stock, style, or theme. Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

Day-Of-Month Effect On A Bond/Equity Portfolio

In this post we will: Take a look at a simple, momentum based, monthly rebalanced Equity/Bond portfolio. Search for what has been the optimal dates in the month to rebalance such a portfolio. Each month we allocate to two ETFs: SPY and TLT . If SPY has outperformed TLT we rebalance to 60% SPY – 40% TLT. If TLT has outperformed SPY we rebalance to 20% SPY – 80% TLT. For the first run we will re-balance on the first of the month and close at the last day of the month. Click to enlarge source: sanzprophet.com Now we will try different combinations of entry and exit days. We will try to purchase x days before or after the month and instead of exiting at the end of the month we will exit after y days. Click to enlarge source: sanzprophet.com Click to enlarge source: sanzprophet.com The top chart is optimized for Net Profit while the second one for annual return/max drawdown. They are similar in this case, but we will use the second one. According to the chart the best combinations have been: Buy 3-7 days after the month and hold for around 10-18 days. The BuyDayRefToMonth variable refers to when we buy relative to the turn of the month. For example -5 means we buy five days after the turn of the month (i.e., the 6th trading day). +5 means we buy 5 days before the month ends. The BarsnStop variable refers to how many days later we sell the positions. Looking at the charts more closely we see that buying after (not before) the 1st of the month gives consistently better results when set between 2 and 7 days. Click to enlarge source: sanzprophet.com How many days we hold the investment is less obvious and seems to work across the given range: Click to enlarge source: sanzprophet.com Let’s run this again but now only for 2012-May 2016: Click to enlarge source: sanzprophet.com Similar results. The only difference is that the holding times are shorter. Let’s now input the optimized numbers and run the backtest. Obviously we will get something that looks good since it has been fit to the data. We buy 6 days after the month and hold 10 trading days. Click to enlarge source: sanzprophet.com Conclusion: There are many variables that affect how we run a dynamic Equity/Bond portfolio. We optimized only two of them, namely when to rebalance relative to the turn of the month and how many days to hold the investment. In terms of entry it was better to wait 3-6 days after the month changes to enter the trade. When it comes to this bond/equity portfolio, rebalancing late is better. Disclosure: I am/we are long SPY, TLT. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.