Buy and Hold
Updated
12/23/04
Keep your eyes on the road
Traveling to your investment goals is much like driving your car. While you can hold
the steering in a fixed position for a short period, eventually, you need to adjust. You
must refine your investment steering regularly or your journey will likely end poorly.
FastTrack is a road map that tells you where your investments have been in the past
with the historical charts. While FastTrack does not see into the future,
it does help you assess current conditions. FastTrack shows there are
many roads to investment success. You choose the path, speed, and the risks you take in
traveling the route.
Many Investors DO NOT know the Current Situation
When reading a current magazine article, you never know if those great ideas are
ancient history, happening now, still in the future, or just plain wrong. Use FastTrack
for perspective. What are the salient characteristics that have the author so enthused.
Many articles are written by fresh-out-of-college English majors. They steer you in
the wrong direction because they've never been there themselves.
There are many published fund ranking systems. Magazines are filled with them. Most
prominent is the Morningstar ranking system of 1-5 stars. What you should know is that
this system doesn't work. This is no surprise since Morningstar themselves disclaim its
predictive power . . . while encouraging funds to advertise their Morningstar ratings (and
their Morningstar name).
Red line: The Average Morningstar 5-Star fund as of
July 1994.
Green Line: The AVG of Growth funds that have existed
since 7/1/94. (The green line is virtually invisible hidden under the
yellow line.
Yellow line: The unmanaged Average of all GROWTH funds
in the FastTrack database.
What Doesn't Work
|
|
|
What you'll notice is that Morningstar top-ranked funds underperform while having a
high correlation (Cor=98%) to the average Growth fund. Every Morningstar ranking repeats
this pattern until December 1997, at which point, Morningstar dramatically changed their
ranking system. (More on the change a couple of paragraphs down).
|
The R chart (Relative Strength) shows:
- Pre-publication: The red 5-Star fund line hugely outperformed the Growth
Average. The lines of the R chart go up indicating the red line of the T Chart is outperforming the
green line.
- After publication: The red 5-Star Average is weaker than the Growth Average. The red
line underperforms the green line by 14% total return since June 30, 1994.
If you were to hold 5 to 10 growth funds at random, you would expect to beat the
Morningstar averages. BUT if you were to pick only one or two funds, then selecting from
the Morningstar suggestions would reduce risk ensuring that you would not be picking one
of the few funds that are poorly managed.
Unfair! The Growth AVG no longer includes the real DOG funds that have been
liquidated or merged!
While this is true, the Morningstar 1994 family has the same advantage. It's real
losers have met a similar fate. It is unlikely that "discontinued" funds are a
factor.
|
|
Morningstar's New System
December 1997, Morningstar dramatically changed their ranking system. This
system seems
to have a new premise: Rank funds for 3-years and pick some that did poorly hoping that
they'll bounce back.
To date, the ranking continues to dramatically underperform. This system seems no
better than its predecessor in terms of finding the funds that will perform the best into
the future.
However, on a risk-adjusted basis, Morningstar's new system may have some merit. This
is discussed under the topic of risk-adjusted return.
Foretelling the future?
This is an imprecise science, but there are rules:
- At broad market-turning points, some issues will move more than others. Simple rankings can help pick the best investments.
- Sectors move differently from the broad market. AccuTrack
can be used to trade between sectors especially using sector funds.
- Mutual funds trend better than stocks. If you like the technical indicator approach to
investing, then you will find funds easier to analyze than stocks.
- Over the long term, if you are going to be a passive investor, owning a growth mutual
fund will provide better returns than owning 3-10 stocks unless you are pretty lucky in
your stock selection. Note A third of all stock investors holding 3-5 stocks over the
long term will beat the market by sheer luck, therefore, you will hear many success
stories favoring stocks over funds. The majority of investors will not beat
the broad market.
|
