evaluating mutual fund performance
DESCRIPTION
Evaluating Mutual Fund Performance. Four important factors in analyzing fund performance: 1. Returns 2. Investment Style and Risk 3. Portfolio Composition 4. Turnover and Taxes - PowerPoint PPT PresentationTRANSCRIPT
![Page 1: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/1.jpg)
1
Evaluating Mutual Fund Performance
Four important factors in analyzing fund performance:
1. Returns
2. Investment Style and Risk
3. Portfolio Composition
4. Turnover and Taxes
Examining these factors reflects how a fund performed in the past. Past performance may not guarantee future performance.
![Page 2: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/2.jpg)
2
Returns
•Returns can be generated through:
1. Dividend Distributions
2. Capital Gains Distributions
3. NAV through unrealized Capital Gains
•The importance of each component varies with the type
of fund.
•Growth, Capital Appreciation, Foreign funds - realized
and unrealized Capital gains;
•Bond fund, Equity Income fund - Dividend and income
![Page 3: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/3.jpg)
3
Returns
Returns can be generated through:
1. Dividend Distributions
2. Capital Gains Distributions
3. NAV through unrealized Capital Gains
![Page 4: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/4.jpg)
4
Returns - Dividends
• Dividends - also called investment income, has two sources:
1. Cash dividends paid stocks (quarterly)
2. Interest payments made by bonds and other fixed income securities (Quarterly or semi- annually).
• Fund distributes income according to its own distribution schedule (monthly, quarterly,….).• Elect to receive cash or reinvest in the fund at its NAV
![Page 5: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/5.jpg)
5
Returns - Dividends
• Undistributed dividends are placed in a money market fund (Cash like securities) until regularly scheduled payout date.
• Ex-dividend Date : On the day the fund distributes its income, NAV per share declines by the amount of cash payout. The date on which the NAV is reduced is called Ex-dividend date. Board sets the ex-dividend date.
![Page 6: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/6.jpg)
6
Returns - Capital Gains
• NAV can be affected by
1. Realized Capital Gains;
2. Unrealized Capital Gains.• Realized Gains are any capital gains on securities that a manager has sold out of the fund’s portfolio.• Tax law permits capital gains to be distributed once a year. During the year, fund keeps track of realized capital gains and losses. • Net Capital Gains are distributed. • Elect to reinvest net capital gains, usually at POP.
![Page 7: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/7.jpg)
7
Returns - Capital Gains
• Unrealized Gains are fund’s paper profits. As market
price of securities rises, the NAV per share also increases.
• Any unrealized losses are also reflected on fund’s NAV.
• Therefore, total return from a mutual fund for a given year is determined by the dividend distributions, net capital gains distributions, and NAV due to unrealized capital gains.
![Page 8: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/8.jpg)
8
Total Return
• Total return is computed for a given period of time, such
as YTD, 1- year, 3-years, 5-years, 10-years, etc., as
mandated by SEC.
•Total Return = ENAV-BNAV+DIST+DIV
BNAV
– ENAV = NAV at the end of period;– BNAV = NAV at the beginning of period;– DIST = capital gains distributions during the period;– DIV = dividend income during the period.
![Page 9: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/9.jpg)
9
Total Return
• Based on Washington Mutual Investors Fund’s NAV
(Fig. 5.3):
•Total Return = $32.91-$30.35+$2.6+$0.61 = 19.01%
$30.35
•Annualized Total Return
•Average Annualized Total Return
![Page 10: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/10.jpg)
10
Total Return
• Discrepancy in computing Average Annualized Total
Return:
• Fig. 5.3- 1996, 1997, 1998 returns are 20.16%, 33.29%
and 19.37%, respectively. Therefore,
–Average Annualized Total Return:
•(20.16+ 33.29+19.37)/3 = 24.28%, but in
Fig 5.1, 3-year average is 22.9%
![Page 11: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/11.jpg)
11
Total Return and Cost
• On-going expenses such as management fees, custodial
fees, directors’ fees, 12b-1 fees) are deducted each day
when fund computes NAV. Therefore, total return factors
in on going expenses.
• Sales load (back end or front end) and redemption fees
are not factored in. Known as load-adjusted total return.
It is less than total return. Not widely publicized.
• SEC regulations mandate the formulas to be used as
well as how the information must be presented.
![Page 12: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/12.jpg)
12
Total Return and Cost
• On-going expenses such as management fees, custodial
fees, directors’ fees, 12b-1 fees) are deducted each day
when fund computes NAV. Therefore, total return factors
in on going expenses.
• Sales load (back end or front end) and redemption fees
are not factored in. Known as load-adjusted total return.
It is less than total return. Not widely publicized.
• SEC regulations mandate the formulas to be used as
well as how the information must be presented.
![Page 13: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/13.jpg)
13
Evaluating Total Return
• Analyze Total Return by:
1. Reviewing the return over 3 or more years; how it has
performed during various bull and bear market cycles.
2. Comparing returns with those of its peers over the same
periods;
3. Comparing return to an appropriate benchmark.
•Review Morningstar Mutual Fund Report
•Review Value Line Mutual Fund Report
![Page 14: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/14.jpg)
14
Investment Style and Risk
• Large diversified fund protects investors against a
decrease in the price of a single security.
• Mutual funds do not protects their investors against
market or systematic risk.
• Risks associated with a mutual fund are determined by:
1. Fund’s investment objective;
2. Portfolio manger’s investment style.
![Page 15: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/15.jpg)
15
Investment Style and Risk
•What is Investment Style?
–On what basis does the manger choose the securities;
– How does the fund manager analyze the securities.
• Three primary types of investment style
1. Value
2. Growth
3. Momentum.
![Page 16: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/16.jpg)
16
Investment Style - Value
•Value Investing
– Invest in companies whose current market value appears to be
below the company’s real worth;
–stock is below the value of comparable companies in the same
business;
• Manger utilize fundamental analysis to assess value;
valuation techniques of the flowing type is often used:
– Price/ Earnings approach
– Price/ Book Value approach
–Dividend Growth approach
![Page 17: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/17.jpg)
17
Investment Style - Growth• Growth Investing
– Portfolio manager selects company based on expectation of
strong growth;
– underlying belief is that if a company’s earnings growth meets or exceeds analysts’ expectations, the stock price will appreciate.
• Earnings announcements and price volatility:– Stock price volatility is high during the period leading up to quarterly earnings announcements;
– This volatility reflects the price movement of a growth fund; can be a Manger utilize fundamental analysis to assess value;
![Page 18: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/18.jpg)
18
Investment Style - Growth• Two earnings figures that determine the markets’ and
managers’ reactions:
–1. Earnings figure published by analysts. Usually more
conservative number with build in contingencies surrounding
the company and sector;
–2. Whisper number. Amount analysts expect if all
contingencies are realistically priced.
• If the reported earnings exceeds expectations, price will increase, and vice versa.• If earnings growth is projected to slow down, price will fall.
![Page 19: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/19.jpg)
19
Investment Style - Growth/Value
• GARP - Growth at a Reasonable Price. A conservative
approach that is a combination of growth and value
styles.
– Primary method is : Price- to -Sales per share approach.
• Fundamental valuation techniques may not be
applicable for such companies.
![Page 20: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/20.jpg)
20
Investment Style -Momentum Investing
• Momentum Investing:
–Portfolio manager believes that the market value of the stock
will increase rapidly;
–Ignores value measures when selecting stocks; stocks may be
overvalued or undervalued;
– As long as there are strong ‘buy’ recommendations, sales and
earnings continue to grow, exceeding expectations, stock price
will continue to rise;
– Style resembles ‘herd mentality’.
•This style is not in favor now.
![Page 21: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/21.jpg)
21
Investment Style -Other Considerations
• Other Considerations:
–Socially Responsible Investing:
•Green Funds - focuses on Environmental Issues;•Fund may not invest in companies that exploits workers in foreign countries - case of South Africa.
–Investing based on Insider trading:
• Follow the smart Money:
• Portfolio manager tracks the trading patter of senior executives and other insiders in the company;
• Their activities are reported to the SEC- public knowledge.
![Page 22: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/22.jpg)
22
Other Risk Considerations
• For Foreign and Global Funds:
– Currency Risk
– Country Risk
•For Bond Funds
– Bond Quality
– Interest Rate Risk
![Page 23: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/23.jpg)
23
Turnover and Taxes• Turnover measures how often the total holding is changed.
• 100% turnover - holding is changed once a year;• 300% turnover - holding is changed three times a year;
• Low turnover is characteristic of a ‘Buy-hold’ policy;
–Large Cap, Value investing, Bond fund etc.,
• High turnover indicative of active trading strategy:
–Aggressive growth, Capital appreciation, momentum trading
•High turnover creates higher transaction cost. Return must
reflect this added cost.
![Page 24: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/24.jpg)
24
Turnover and Taxes
•High turnover is not always bad. Turnover should be
judged against the objective of the fund.
• Investors may equate high turnover with market
savvy and intelligence of the fund manager.
• When market performs well, investors ignore
turnover and other cost associated with it. When
market is flat or performing poorly, this cost stands
out.
![Page 25: Evaluating Mutual Fund Performance](https://reader035.vdocuments.us/reader035/viewer/2022062309/56814e2d550346895dbb9237/html5/thumbnails/25.jpg)
25
Turnover and Taxes
•High turnover will result in higher realized capital
gains (losses);
•Capital gains must be distributed the year it is
realized; investors may be presented with a high tax
liability;
• Distributed capital gains qualifies for short term or
long term gains depending on the length of holding;
• A fund manager,with an eye toward tax efficiency,
may minimize capital gains by lowering turnover.