Portfolio Turnover: Should you care

The portfolio turnover is yet another important statistics that many of the mutual fund investors talk and check before investing in a fund. For starters portfolio turnover means the percentage of holdings that have changed in a fund over a particular period. It is calculated by total purchase or total sales (whichever is lower) divided by average of net assets of the fund in the same period.

Under the conventional wisdom a lower turnover means the fund is employing buy and hold strategy and if everything remains the same, a fund with a lower turnover would generate higher returns. This is because a higher turnover would mean higher transaction cost, which is deducted from your fund’s net asset value (NAV) that results into lower returns.

Nonetheless, our analysis of 270 regular equity funds shows that turnover is in no way significantly related to the fund’s return. A lower turnover does not mean a higher return or a higher turnover does not mean a lower return. The graph below clearly shows that there is no clear relation between fund's returns and their portfolio turnover. Even the correlation between them is very weak and is positive.
 


Going one step ahead, we calculated the relationship between expense ratio and turnover, we again found no significant relationship between them. There is a very feeble positive relationship between the expense ratio and the portfolio turnover. Further on, we tried to find the relation between category turnover and their returns. Since there were not enough funds in some categories, we could not prove anything conclusively. However, the following table shows how portfolio turnover and one-year returns are not related. For example, Mid-cap and Banking funds have same median turnover, however, a large difference in returns.