Should funds be reporting peak-to-peak cycle performances?

The standard multi-year time frames used by fund companies may be insufficient

Should funds be reporting peak-to-peak cycle performances?
To evaluate the performance of active funds, investors are typically given data on returns observed over one-, three-, and five-year time frames. But for a more thorough assessment, investors may need to be shown returns over a complete bull-bear cycle, also known as a full-market cycle.

A full-market cycle is defined as a “peak-to-peak period that contains a price decline of at least 20% over at least a two-month period from the previous market peak, followed by a rebound that establishes a new higher peak,” according to Ryan Leggio and Steven Romick of Los Angeles-based FPA Funds.

Following this definition, a team evaluated the performance of the 100 largest non-bond, actively managed funds from 2008 through the first quarter of 2017, making sure that only a single team or manager was responsible for the performance, according to a piece on the Wall Street Journal. The list was narrowed by stripping out sector funds, small-cap funds, midcap funds, and allocation funds; according to the team, most people get the bulk of their stock exposure via domestic large-cap funds.

“That left us with 60 funds that invested in large-cap domestic and/or foreign stocks,” said John Coumarianos, a former Morningstar analyst.

Among the 60 funds, 41 beat the S&P 500, the MSCI EAFE or the MSCI ACWI from 2008 through Q1 2017. It’s a strong performance relative to other studies where a smaller proportion of active funds studied managed to beat their respective indices. However, it still left a third of the largest active funds studied, worth more than US$1 trillion, unable to beat their respective yardstick indices.

Some of the funds that beat their index by the highest margin were value funds and growth funds. Value funds mostly made the cut because they held up through the bear market of 2008 and early 2009. Meanwhile, growth funds owed much of their full-cycle performance to a rally that they have experienced over the past few years, which has helped them overcome peak-to-trough plunges as acute as 47% during the financial crisis.

“A full-cycle view can help investors avoid dismissing funds with a subpar three- or even five-year performance versus an index,” Coumarianos said. “[To help investors judge alternatives to low-cost index funds], fund companies and ratings services should display full-cycle return data along with the current standard one-, three-, five- and 10-year data points.”

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