While fund returns tell us which managers are adding value, Morningstar’s investor returns tell us how investors earn or dissipate that value. . Investor Return is a dollar-weighted return that measures how well an investor has timed its purchases and sales of the fund. With good timing, you may earn more than the official long-term return, but with bad timing, even solidly performing funds can lose money.
We can all take some lessons from the examples of funds that investors have used well and those that haven’t. (All figures are for his end of January 2023.) You can see the fund’s investor returns on the data page at mfi.morningstar.com.
Start with the Baron Global Advantage BGAFX. Manager Alex Umansky has guided the fund to achieve a 10% annualized return over the past 10 years through January 2023. The fund is not only stable every year he earned 10%. This is an aggressive fund that really pops when growth stocks are hot. In 2017 he recorded a significant increase of 50%, in 2019 he was 45% and in 2020 he was 79%. Amazon.com AMZN and Illumina ILMN did a great job.
At the 2022 valuation correction that crushed growth stocks, the fund returned a big chunk of those gains with a 51.7% loss. Yes, it would have been nice and very lucky to be out in 2021, but having been there for those three years, I was still fine. The fund’s assets were less than $100 million in its first significant year, 2017, and only $100 million until 2019. $200 million inflows in 2019 and $1.3 billion in 2020. In short, most shareholders have failed. Participated in the first two rallies and only part of the 2020 advance.
With the flow flat in 2021, some have exited or at least adjusted their positions. But even though the fund saw minor outflows throughout the year, most were there for the 2022 bankruptcy.
Extreme performance and Morningstar high-risk ratings characterize funds that are difficult for investors to use. A few things help. First, you should be able to tell that this is a high-risk/high-return fund, given its large calendar-year returns. It makes sense to limit such funds to a small portion of the portfolio, ideally he less than 5%, definitely not more than 10%. Second, that last crash year should have been a signal that this fund owned overheated assets. In 2021, my colleague Jeff Ptak looked at the subsequent results of funds that had made more than 100% returns in a calendar year since 1990 and found that most funds would lose money over the next three years. I understand. This fund he didn’t reach 100% in a year but in 2019 he’s 45% and in 2020 he’s 79% and fits in a similar space . If the fund makes extreme profits, proceed with caution.
Three fixed income funds posted the top third of returns over the decade, while the bottom 10th of investors performed the same period. For example, his WATFX on Western Asset Core Bonds rose 1.8% on an annualized basis, while a typical investor lost about 1.0%. TIAA-CREF Core Impact Bond TSBIX rose 2.0% while investors fell about 1.3%. Carillon Reams Core Plus Bond SCPYX grew 1.9% on an annualized basis, while investors lost about 0.9%. Bond funds hit a brick wall in 2022 as interest rates soared, making bond fund investor decision-making look poor.
And since all three funds are mostly institutional investors, we can’t simply blame the fickle retail investors.
At Carillon, flows were small, except in 2020, when the fund doubled its size by raising $700 million. After that, his next two years posted losses. While the fund saw him up 16.0% at its 2020 peak and down 12.2% at its 2022 trough, the story is just a smaller version of Baron Global Advantage. Investors bought in the fund’s best years.
TIAA-CREF core impact bonds were up just 7% in 2019. In this case, the fund had annual inflows of at least $1 billion from 2018 to 2021. The fund said that in 2021 he lost 1%, but in 2022 he lost 14%, with $400 million outflow. So while it wasn’t a crash year or signs of extreme risk, the fund’s 2022 loss caught investors off guard.
Western Asset’s aggressive strategy often results in the fund ranking in the top or bottom decile of its category. Its manager assumes more interest rate risk than its peers, so you can guess what happened. Nice rises of 10.4% in 2019 and 9.1% in 2020 attracted huge inflows until losses of 1.8% in 2021 and 16.9% in 2022 caused massive outflows. The fund raised $8.2 billion for him in 2019 and 2020 combined, but in 2022 he’s flooded with $3.5 billion exits. This indicates that institutions and financial planners may not understand the risks of funds. They should have known that the fund’s high duration figures indicated that the fund would get burned when interest rates spiked, but many apparently didn’t pay attention.
One clear lesson is that you should understand the risks of a fund and refrain from investing if you cannot afford the downside. Investors in bond funds are risk averse, so a 15% loss could cause a selloff as extreme as an equity fund after a 40% drop. Reaching yields that are a little more than most funds offer often results in a significant jump in risk.
There are success stories. Fidelity Growth Company’s FDGRX 10-year investor return of 17.4% exceeded its annualized profit of 16.7% for the period by almost one percentage point. T. Rowe Price Capital Appreciation PRWCX generated an 11.0% gain and investors enjoyed his 10.3% gain. Those numbers are elite. They have two things in common. The funds delivered excellent returns and were closed to new investors for 16 and 8 years respectively. Choosing a good fund and a fund to close is a great combination, but it doesn’t come easy. (Incidentally, T. Rowe Price plans to launch an exchange-traded fund similar to the T. Rowe Price Capital Appreciation Equity Sleeve.)
Whether the fund closes or not, showing restraint can help investors return. Refrain from doubling when the fund has had a great year. If the fund has a bad year, refrain from rescuing it unless you have problems other than the year’s performance.
Consider what can help you to be patient with your fund. A reminder that for some, investing in a retirement account is a long-term game. For others, it helps to have a balanced fund rather than having separate stock and bond funds. It helps you judge and is less likely to react emotionally.
Jensen Quality Growth JENSX epitomizes successful returns for investors. The fund made an annualized return of 13.0%, with a return to investors of his 13.2%. The fund’s focus on quality stocks usually means it loses less in recessions, but gains less when aggressive growth is all the rage. Funds with lower risk ratings are easier to own. You don’t need to time it like funds like Baron Global Advantage. (I own a Jensen Quality Growth.)
T. Rowe Price Summit Municipal Intermediate Share PRSMX rose 2.0%, with investors gaining an annualized rate of 1.4%. This was the top 5% in that category. Sleepy rides may have helped. Over the past 10 calendar years, returns have ranged between +7.1% and -7.5%. Bowling is pretty effective.
It’s been a tough year for stocks and bonds, so simply looking at a fund’s 2022 losses is a useful exercise when looking for new investments. Risk ratings and standard deviations are a bit abstract, but numbers in red ink are not. The more familiar you are with the fund’s risk profile and the types of markets in which you are likely to lose money, the more likely you are to have a good experience.
This article was first published in the March 2023 issue. morningstar fund investorDownload a free copy of . fund investor by visiting this website.