Many times, when I meet with clients and potential clients I like to ask the question, “what type of return are you expecting from the funds that I’m going to put you in.” I’ve received a pretty wide variety of answers over time that range from people who have no idea what to expect all the way to one person who told me he expected the funds I chose to produce returns of at least 10% per month. It’s at this time when I usually try to convince people of what type of return they might realistically expect. Although I generally prefer to use forward looking research to make these types of statements I still think there is some value in looking at past returns to get an idea of what might be the highest and lowest ends in the performance spectrum as well as how those returns compare to an index fund.
I downloaded a list of the top 100 funds ranked by 10-year annualized return from the Morningstar database and gleaned some pretty interesting insights. Let me start by explaining the data…
Explanation of the Morningstar data
- On 10/6/2017 there were 28,280 mutual funds listed in the Morningstar database of which 17,477 had a 10-year return listed.
- On 9/29/2017 I downloaded the list of the top performing 100 funds over 10 years.
- I chose 10 years because I wanted the financial crisis of 2008/2009 to be included.
- The list does contain multiple share classes so there is a little bit of overlap.
- The list does not include ETFs, just mutual funds.
- The return data is net of expenses on the funds, assumes dividends and capital gains distributions are reinvested, and does not include taxes.
- Please note that when I discuss what’s in the portfolios of these funds this is a snapshot of the securities currently in the portfolio and may not be what was in the portfolio in the past. In other words, I’m assuming that most top funds have not changed their strategies significantly over the past 10 years.
- This list does not account for survivorship bias, this means that there may have been more than 17,477 funds 10 years ago, some of which closed or merged with another fund (this might have decreased the chances of owning a top fund).
Would anyone like to guess what the return per year on the top performing mutual fund was…how about a whopping 20.02% per year. This means that if you were to put $200,000 in this fund 10 years ago you would have $1,240,412.75 before taxes today. Sounds pretty good, doesn’t it?
So, then you might be wondering, what was this top performing mutual fund and how did it do so well? The fund was ProFunds Biotechnology UltraSector, BIPIX. As you can probably guess, this fund only has biotechnology stocks in it. The ProFunds website says that the fund seeks results that are 1.5x the result of the Dow Jones U.S. Biotechnology Index in a single day. This means that this fund is also using leverage techniques that will magnify the gain or loss. Your first takeaway from my article should be that you would likely never buy a fund like this and hold it for 10 years. Its high concentration in one sub industry and use of leverage techniques mean that it’s really not designed to be a core long term holding in someone’s portfolio. This fund was more designed for the purpose of short term trading.
Let’s keep going down the list to try to establish what might be a better upper return expectation for a top mutual fund.
The next fund on the list was the ProFunds Internet UltraSector Fund (MUTF:INPIX) which produced a 10-year return of 17.97% per year for the past 10 years. Okay then, before I let this go on and on and show you just how many top performing funds were either funds focused exclusively on healthcare or technology stocks how about I move down the list to the first fund that was more diversified.
In summary, the top two funds from our top 100 list were…
1. ProFunds Biotechnology UltraSector Fund (MUTF:BIPIX) – 20.20% per year (open to new investment, leveraged biotechnology stocks)
3. ProFunds Internet UltraSector Fund – 17.97% per year (open to new investment, leveraged internet stocks)
(Note: the 2nd ranked fund on the list was just a different share class of the biotechnology fund)
As we move down the list we are now moving away from funds that were either specifically healthcare or technology funds and we’ll find that most of the funds in the next group were more diversified but were overweight healthcare and technology stocks…
31. Pimco StocksPlus Long Duration Fund (MUTF:PSLDX) – 14.36% per year (this fund is very unique because it does not hold stocks and employs a strategy that involves S&P500 swaps and futures as well as investing in long duration bonds, it requires a minimum investment of $1 MM)
53. PrimeCap Odyssey Aggressive Growth Fund (MUTF:POAGX) – 12.85% per year (closed to new investment, 61.3% of holdings are in technology or healthcare, see my recent Seeking Alpha article that talks about Primecap here)
60. Brown Capital Management Small Company Fund (MUTF:BCSIX) – 12.61% per year (closed to new investment, 89% of holdings are in technology or healthcare)
61. Parnassus Endeavor Fund (MUTF:PARWX) – 12.59% per year (open to new investment, 64.7% of holdings are in technology or healthcare)
64. Pimco StocksPlus Small Fund (MUTF:PSCSX) – 12.38% per year (this fund is very unique because it does not hold stocks and employs a strategy that involves Russell 2000 swaps and futures as well as investing in bonds, it requires a minimum investment of $1 MM)
We still don’t have a very good long-term return ceiling for two reasons. First, two of these funds were closed to new investment and two funds have minimums that will be too high for most investors. In other words, most of these funds won’t take your money. Second, you’ll notice that Primecap, Brown Capital, and Parnassus have very heavy industry concentration in healthcare and technology. I’d like to look for a fund that has concentration of 50% or less in its top two industries.
Thus far, the funds at the very top of the top 100 list were primarily either healthcare or technology specific funds. The funds in the middle of the list were generally heavily concentrated in both technology and healthcare and some of them won’t take on additional investment. Our ceiling on the highest return we might get from our mutual funds has now fallen from 20.02% per year to 12.38% per year.
Let’s keep moving down the list…
At this point in the list I’m noticing a little less concentration in technology and healthcare but three of the five funds mentioned below are closed.
73. T. Rowe Price New Horizons Fund (MUTF:PRNHX) – 12.08% per year (closed to new investment, 45.9% of holdings are in technology or healthcare)
76. Eaton Vance Atlanta Capital SMID-Cap Fund (MUTF:ERASX) – 11.96% per year (All share classes are closed except one that has a $1 MM minimum, 35.7% of holdings are in healthcare or technology)
81. Fidelity OTC Portfolio (MUTF:FOCKX) – 11.90% per year (open to new investment, 67.1% of holdings are in healthcare or technology)
92. Jackson Square SMID-Cap Growth Fund (MUTF:JSMTX) – 11.75% per year (this fund has a $100k minimum, 59.3% of holdings are in technology or financial services)
98. Berkshire Focus Fund (MUTF:BFOCX) – 11.70% per year (open to new investment, nearly 100% holdings are in technology or consumer cyclical stocks)
Virtually every fund in the top 100 mutual funds over the past 10 years showed pretty high concentration in one or two industries, was closed to new investment, or has such a high minimum that most investors won’t be able to buy shares.
I’m going to admit I was worried that this might happen so I actually downloaded a larger list that went past the top 100 performing funds. Going past the top 100 there were many more funds that had the same issues as I found in the top 100. The first fund I came to that I thought could actually be a core holding in someone’s portfolio was…
280. T. Rowe Price QM US Small Cap Growth Equity Fund (MUTF:PRDSX) – 10.36% per year (open to new investment, 41.6% of holdings are technology and healthcare stocks)
I feel pretty comfortable saying that, based on the past 10 years, the upper end of the return spectrum for a fund is probably about 10.36% (PRDSX) if having greater than 50% of the holdings in two industries concerns you, or about 12.85% (POAGX) if you feel comfortable allowing a manager to invest most of the assets in two industries. Of course, over the next 10 years these returns could go up or down depending on the global economic climate or a variety of other factors.
Over this 10-year time period the S&P 500 returned 7.44% per year assuming dividends and capital gains were reinvested. You could have obtained this return minus expenses by simply by buying an ETF like the SPDR S&P 500 Trust ETF (NYSEARCA:SPY). To me this says that managers who are beating the S&P 500 by 3% are some of the very best you could hope for in a diversified portfolio and you have to be fortunate enough to pick those managers in advance.
For those of you interested in buying a fund that is mentioned in this article, still open to new investment, has reasonable minimums, and offers at least some diversification, you might pick from one of these three…
- Parnassus Endeavor Fund
- Fidelity OTC Portfolio
- T. Rowe Price QM US Small Cap Growth Equity Fund
If you do decide but one of these funds just be aware of the curse of performance chasing.
Disclosure: I am/we are long VOO.
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.