Understanding & recognising managers expertise in mutual fund

Usually, advisors conduct research on fund managers and cross-check their track record before advising a particular fund to their clients. Although, he is a person-in-charge of the fund and is responsible for steering the performance of the fund, yet he does not act alone. The expertise of an individual fund manager is important, however, he is not solely responsible and so, there is a full-fledged system that helps him to carry out work and enable him to perform well.

Those who closely keep a watch on mutual fund industry might know the fact that some fund managers are made a hero and considered as geniuses just because in the last one year, all of his funds are topper in their respective category.  The impact, suddenly, is seen when his face is plastered across the financial magazines and he’s hailed as the next investing genius and then, hundreds of crores of new investor money come pouring into his fund.

Judging and investing, purely based on the short-term (one year is a short-time period) fund performance numbers do not conclude much as it may be just a luck factor, where investment has been done in the right sector at the right time. Moreover, you should also look at the risk taken to generate such returns. Many a time to generate better returns the fund managers load themselves with the extra return, contributing to his higher returns.

This is reflected in the difference in returns of the best and the worst funds within a single category. The difference is huge in short-duration while, in long-duration, the difference becomes lower. The table below clearly shows that:

One of the top reasons for such a difference in returns between the best and the worst in short and long-term is because of the survivorship bias, where only the best funds survive for a long period and second is that the performance of the funds mostly has a cycle.  If in one period, a particular fund performs, it may not perform in the next period.

In a nutshell, look at the long-term performance of the fund and avoid fund companies with little fund management experience and success. To prove this with an analogy, if you need surgery, you place your trust with a surgeon who has successfully performed the operation hundreds of times and not with the one who has just started his career.