Morningstar has published a study again finding that expense ratios are proven predictors of future fund performance.
Funds with lower expenses have higher “success ratios,” which indicate the percentage of funds that survived and outperformed their category group, while higher-cost funds have lower success ratios.
Authored by Russel Kinnel (pictured), chair of Morningstar’s North America ratings committee and editor of Morningstar FundInvestor, the study examined US open-end and exchange-traded funds to evaluate the predictive nature of fund expenses on future total returns, load-adjusted returns, standard deviation, investor returns, and the Morningstar Rating.
”While we think it makes sense to consider a variety of factors when choosing funds, our research continues to find that fund fees are a strong and dependable predictor of future success,” says Kinnel. “We found that the cheapest funds were at least two to three times more likely to succeed than the priciest funds. Strikingly, our finding held across virtually every asset class and time period we examined, which clearly indicates that investors should keep cost in mind no matter what type of fund they are considering.”
The lowest-cost US equity funds succeeded three times as often as the highest-cost funds. The least-expensive quintile had a total return success rate of 62 per cent, compared with 48 per cent for the second-cheapest quintile, 39 per cent for the middle quintile, 30 per cent for the second-priciest quintile, and 20 per cent for the most-expensive quintile.
International-equity funds had a 51 per cent success ratio for the least-expensive quintile compared with 21 per cent for the most-expensive quintile.
Balanced funds had a 54 per cent success rate for the least-expensive quintile compared with 24 per cent for the most-expensive quintile.
Among taxable-bond funds, the least-expensive quintile delivered a 59 per cent success rate versus 17 per cent for the most-expensive quintile. Municipal bond funds showed a similar pattern, with a 56 per cent success rate for the least-expensive quintile and 16 per cent for the most-expensive quintile.
