S&P: Mutual Fund Performance Persistance

Mutual Fund Report

The semi-annual S&P Mutual Fund Performance Persistence Scorecard tracks consistency of top performers over three and five consecutive-year periods and measures performance consistency, corrected for survivorship bias, through transition matrices for one-, three- and five-year non-overlapping holding periods.

At December 31, 2005, only 15.5% of large-cap funds, 10.2% of mid-cap funds, and 9.8% of small-cap funds maintained a top-quartile ranking over three consecutive 12-month periods. Three-year top-half performers totaled 32.2% of large-cap, 27.3% of mid-cap, and 25.7% of small-cap funds (285 funds). For five consecutive years, top-half consistency percentages were smaller at 11.7%, 10.6%, and 12.0% for large-cap, mid-cap, and small-cap funds (108 funds).

Our research indicates that top-quartile and top-half persistence over three years tends to remain higher than random expectations. Over five years, while large- and small-cap funds continue to exceed random expectations, we see deterioration in top quartile results for madcap funds. Overall, it is difficult to maintain a top-quartile ranking over a long time period. Some mid-cap funds, which can hold a portion of the portfolio in large-capitalization securities, can be hurt by their weightings in a capitalization space that is out of favor.

Over the past five years, close to a market cycle, the majority of consistent top-half performers continued to favor the value style. Over the past three years we see higher percentages in the growth styles. Finding top-performing small-cap funds that are still open to new investors remains difficult; over a quarter of consistent small-cap funds are closed.

Five-year consistent performers had longer manager tenure at their funds, lower expenses relative to peers and minimized or avoided losses during the bear market relative to peers. Interestingly, over a three-year period, average expenses for large-cap consistent performers exceeded the universe average. Growth funds tend to have, on average, higher expenses relative to value funds. As the number of consistent top-performing growth-style funds increase, expenses may drift higher relative to the universe average.

Transition matrices provide information on longer-term performance persistence. There was some persistence over a one-year time frame but persistence declined over longer time horizons. If there were no persistence, we would expect to see 25% repeating top-quartile performance and 50% repeating top-half rankings in the second period. Transition matrices over a one-year time horizon show an average of 34.5% remaining in the top quartile and 53.5% maintaining their top-half ranking. Over longer periods, the average top-quartile (tophalf) repeat performances were 28.4% (44.4%) for three years and 7.41% (26.1%) for five years.

Fourth quartile funds had a higher probability of disappearing. The three-year transition matrix notes that 26.5% of large-cap, 26.5% of mid-cap, and 29.6% of small-cap 4th quartile funds disappeared due to mergers or liquidations. A large percentage of 4th quartile funds that survived still remained in the bottom half (38.7% of large-cap, 29.4% of mid-cap, and 38.0% of small-cap).