If your fund is trailing its benchmark, now you have an excuse. The Wall Street Journal
's Karen Damato just gave a short lesson
on "survivorship bias," a statistical quirk that skews the way fund returns are analyzed.
When you compare a fund's ten-year performance to its category, you're leaving out all the funds that liquidated or were merged over that time -- in other words, you're only looking at the survivors. The flops are "airbrushed out of the picture." So naturally this has the effect of "making a category's performance record look brighter in hindsight than it really was year by year," Damato writes.
How much does the survivorship effect alter the picture? Take long/short funds, sixty-two of which were launched from 1996 through 2006, but only thirty-two of which are still around. The WSJ
says that in 2003, long/short funds that are still operating returned an average of 19.2 percent. But all long/short funds, including the ones that have washed out in the last decade, returned only 8.5 percent that year.
, Morningstar's director of mutual fund research, told Damato that survivorship bias has the most impact "in the small, quirkier, more volatile categories" that see a lot of flops.
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