Should I buy award-winning mutual funds?

Markus Muhs - Nov 05, 2020
The other day I was rummaging through some boxes of old crap, trying to reduce my number of boxes of old crap. In the process I discovered these gems, which I obtained at the very beginning of my career and held on to for some reason.
90 award winning funds? From 2007 and 2008 (I think the mag was released January of each year), right before the Great Financial Crisis? This looks like another opportunity to do a blog post akin to last year’s What happened to all the top mutual funds? where I tracked the outcome of investing in the top performing funds from a 1994 guide to investing.
Better even, I can relate a bit more to these funds and the circumstances of the time because this was at the beginning of my career, instead of when I was in Junior High.
I still remember reading these mags for the first time; they were inserts for some industry publication. When I got the second one in 2008 I was new to the Financial Planner role at my bank and was finally able to offer more than just my own bank’s mutual funds for the first time, so at the time I was actively researching the fund universe and building portfolios for my clients.
I will admit that early in my career I was 100% into actively managed funds (this was mostly what was available to me and the only types of funds that paid me at the bank). I paid too much heed to past returns and “track record”, but thankfully I considered MER too, in terms of selecting the 2.2% fund over the 2.7% fund whenever possible. I know that doesn’t make a huge difference at those high MER levels, but it did at least have the effect of steering me away from some bad fund companies and towards better ones.
Anyway, I set out not to compare all 90 funds, but just the top 3 funds in each of the main core categories, and their returns since. The data presented in the “Then” columns below is straight from the magazines and presumed to be accurate. Data in the “Now” columns is the latest available from Morningstar Canada.
One other note about the asterisks around some MERs, and a general caveat when comparing these: For the most part the Guides used full-commission series (typically containing a 1% trailing commission embedded in the MERs), but those with asterisks below are fund series containing partial commissions (0.25% to 0.50% at the time) intended either to be purchased by self-directed investors or sold by an advisor with a front end load (a one-time charge, usually up to 5%), so keep this in mind when comparing any MERs.
This is one of those things that I think many financial journalists still haven’t figured out yet—or at least don’t give proper reference to when comparing funds—that funds are sold or bought in a variety of commission structures; comparisons aren’t always apples to apples. This goes, whether they’re comparing U.S. fund MERs (without trailing commissions) to “much higher” fund MERs in Canada (with trailing commissions), or when they’re pointing out “good, low cost fund companies”, when the only thing they’re pointing out is companies whose main fund series is non-commission (the high-MER companies usually also offer lower MER funds in the same sales structure). But I digress.
In each category I also included an index ETF equivalent. These were chosen purely based on what was available at the time (far less than today) and were probably the lowest cost. iShares were one of the only index ETF providers I remember being available in Canada in 2007/2009, and Vanguard was already one of the biggest in the U.S. back then, and was the originator of index investing. So, if you put yourself in the shoes of an investor at that time, deciding whether to purchase “award-winning funds” out of a magazine, or simply the lowest cost index option available, these ETFs would have been the most likely fund choices.
Obviously, it goes without saying that absolutely none of the below is to be interpreted as a recommendation of any particular investments. The thesis is after all that you should not have bought these funds back then based on “awards”. Same goes for the ETFs: these are based on the very limited selection available at the time. Do your research or speak to an advisor.
Around the time when these guides came out, real estate was booming, stocks were entering their final years of a short bull market before the financial crisis, and the Canadian dollar was very strong, making for a very uneven playing field in between global/int/US funds that did some currency hedging and those that did not. Unlike today, the value factor was very strong back then; in particular among financial and resource company stocks. Emerging markets were all the rage too.
A bit of additional info to go with the below data:
  • All returns are in $CAD. Keep in mind that mutual fund returns are always posted net of fees.
  • CAGR = compound annualized growth rate for the 13 or 14-year period
  • 5yr = compound annualized growth rate for the 5 years leading up
  • MER = Management Expense Ratio (%)
  • Quintile = 1 to 5, where the lower number is better. For example 1 = the fund ranked among the top 20% of its peers over the "Now" period. The Guides included star ratings for 2006/2007 and all were 4 or 5 stars back then.
First off, you’ll see something in the table above and most of the ones below that needs some explaining. Where I grayed out areas, the original fund no longer exists. For a few of the funds in these lists I was easily able to determine the current name/iteration of the fund, as they were simple fund company name changes/mergers, but I didn’t put too much effort into tracing what happened to every one of these funds.
In the case of Mutual Beacon, I think it became part of Franklin Templeton’s fund line-up, but can’t figure out which fund it got merged into. A fund of the same name seems to still exist in the U.S.
The first learning from this, that was also apparent when I did the other blog post on top funds from 1993, is that when buying funds you can’t always expect those funds or those fund companies to last in their current form for your entire investment time horizon. We aim to be long-term investors and hold these investments forever, but it seems every 10 years half the fund companies turn over in some way, meaning your fund will get merged or see its name/mandate change. What can be an “award winning” fund one year can get shut down or merged just a few years later. For the purpose of this blog post, I’m going to consider that as an undesirable outcome so, regardless of returns, having your fund upended like that is a fail.
Something else to learn from the above—to be mindful of when picking any investment strategy—is that investment styles come and go in popularity and success. All three funds are value funds, which did particularly well in the mid-2000s, while tech and other sectors were still struggling to gain a foothold. When you compare all funds in a regional category, you’re comparing apples and oranges; sometimes the apples are really good, sometimes the oranges. Anyone who followed this Guide bought the hot factor, which has been the coldest of cold in the years since.
Here we still have two value funds (Fidelity and RBC) in the rankings, and a high-flying growth fund has taken top spot.
This table demonstrates that occasionally there are really good funds that continue to outperform; it’s just impossible to know which they are at the time you invest in them. Obviously, in 2008 more investors were putting their money into the RBC fund (it had $1.46 billion) than the Dynamic one ($209 million) and this would seem the logical choice. The consumer's choice was between a very aggressive high-MER fund that did 14% annually versus a more conservatively managed, lower-MER fund that did 13% annually. Logical choice was the latter. Look at how assets have flown since: the Dynamic fund more than tentuppled, while the RBC fund saw their assets slashed in half despite the fact that they have the best mutual fund sales channel around (a major bank with branches all across the country).
While your chances of catching the best returns in the best funds are rare, you can decide to simply not play that game and buy the whole index instead (VTI in the table above). Here it is demonstrated to be the more prudent option, not just in reducing how much of your investments get eaten up in fees, but also eliminating the risk of being in the wrong fund, or in this case the wrong factor. Yes, being in the Dynamic fund over the past 13 years would have been awesome, but getting less than 4% annually in the RBC one in a mostly bull market would have really disappointed. Going with the index you got a very pleasing 10.82% annually (or 9.something% with a fee-based advisor).

I mentioned that the asterisks mean we can’t make direct MER comparisons, but even if we account for 0.25% commission on the Mawer product above versus 1% on the other two, the Mawer product still has a somewhat lower fee, which leads to another learning if/when buying active mutual funds.
Lower costs matter in a number of ways. One is obvious: less of your money subtracted from your fund every day means higher performance if all else is equal. Additionally, I think funds with lower fees create less of a hurdle for fund managers to have to beat in order to post reasonable net returns. In turn, fund managers take more prudent risk and tend to use less complicated processes.
Not to get too subjective here regarding fund companies, but one of the above has seen massive outflows over the past 13 years, has seen a number of “star managers” leave, and had to consolidate some funds, as they did above. The low cost fund above uses a “be boring” process, keeps their costs low as best they can, and has seen asset flows into the fund balloon it from $222 million to $7.3 billion.
The 2008 winners again show the boring low-cost company being the only real survivor next to two high-cost funds that no longer exist in their present forms. 
The fund company AIM merged with Trimark in the early-2000s and allegedly caused some internal ruckus as their cultures clashed. AIM was a growth/momentum shop, while Trimark a more value/fundamentals type shop. This led to a lot of fund manager departures, fund mergers/closures, and the eventual takeover by U.S. giant Invesco. More drama you could do without by using index funds instead.
I believe the AGF International Growth fund ended up merging into the AGF Global fund. As it stands right now, I can’t find an international fund in AGF’s fund line-up.
For those confused about the differences between the categories of “International” and “Global”, a lot of our fund terminology comes from the U.S. There, a global fund invests in the whole world, while an international fund invests everywhere outside the U.S. Thus, in Canada, an international fund typically invests everywhere outside of North America, while a global fund is mostly a mix of U.S. and international.
Here again we see the value factor at the forefront. Two funds that appeared to have done really well in the years leading up, who completely bombed in the following 13 years.
Even though it was only a little lower-costing, the Capital Group fund (which is mostly style-agnostic) would have been the better pick back then. It’s worth noting that as their assets ballooned to $9.5 billion they also rewarded fund holders with an even lower MER.
Again here, you have three value funds that looked like shining stars in the mid-2000s, which have been trounced in the 13 years since. Each have also gone through fund name changes; the Trimark Fund becoming Invesco Global Companies (its original managers having since left to form EdgePoint Wealth), Mutual Discovery is now Franklin Mutual Global Discovery, and Dynamic’s former Global Value is now an International Equity fund. I wonder if the latter came about simply because in more recent years value could only be found in international markets, thus a mandate change was needed?
I reiterate that the ETF comparison used is not a recommendation. The iShares Global 100 holds the 100 largest publicly traded companies in the world and was only selected in this comparison, over much lower-costing "total world" or MSCI ACWI-tracking ETFs because no other global ETFs I could find had the full 13 years of history.
As mentioned, emerging markets were really hot back then, especially in Latin America (this was the era between Argentine bankruptcies). The Latin America fad didn’t last long though, with TD merging theirs into their Emerging Markets fund (a sensible merger, so I included recent returns), and Scotia merging theirs into their International Equity fund (a significant mandate change, again).
It’s obviously been a tough slog for EM funds in the years since, but again we’re seeing that the safer choice would have been to just go with the index ETF. All of the funds among the 2007 and 2008 award winners in this category also have extraordinarily high MERs.
I left the Canadian equity category for last, as it’s the least important of all fund categories (though the one we pay far too much attention to).
Here again we see value funds and dividend funds, which were all the rage back then. The irrational fascination with dividend income focused investing that still prevails today I think was born in that era.
Sceptre Investment Counsel merged with Fiera Capital in 2010, and in more recent years Fiera sold their retail mutual fund business to Canoe Financial, and yet more fund mergers occurred. In the 2007 Guide, the manager of that fund actually won “fund manager of the year” for 2006. I could do a whole other blog post tracking what happened to the winning fund managers. I do note that this fund manager and the one who won in the year prior were both value fund managers. The 2005 winner still runs a fund company to this day, and her value strategy has struggled likewise for the past decade.
Here again we see a familiar low-cost fund company, plus one other one, both of which outperformed. Interestingly, XIC was the weakest performer among the four, but you’ll have to remember there were hundreds, if not a thousand, other Canadian equity funds that did worse or far worse.
This gets to one of the benefits of index investing: predictable returns. If the markets are strong you can expect strong returns; if they’re weak then weak. So Canadian markets were weak, you made the expected 3.71% annually and couldn’t have expected much better in any other funds. In strong markets you make the upside and don’t risk being inflicted with the type of underperformance that value funds experienced.


A summary of learnings

Obviously the key thing here is to never buy funds because of past returns, or because they won awards, or have high star ratings. These are always backward looking. If anything, these factors can only be considered alongside a multitude of other factors.
Understand the contents of a fund and how the holdings and strategy might be a major factor into why their recent returns look good. They might simply look good because they stringently hold to a particular investing factor, and that factor happened to be in favor.
On the flip side, those with lower ratings or weaker returns in the recent past shouldn’t necessarily be avoided. Jim O’Shaughnessy is a brilliant man, I’ve read one of his books, listen to all his and his son's podcasts, and occasionally we exchange GIFs on Twitter, like this one: 
He’s a value investor though for the most part, at least if he’s advising on a value fund for RBC I know he’s going to stick to his guns and not start adding Amazon or Tesla to the portfolio. The fund was a shining star in 2007 simply because the value factor was tops at the time and he managed it relatively well, and it’s 5th quintile now simply because value managers have been paddling up current for the past decade and it probably took masterful stock selection to squeak out a slightly positive return (in fact beating Chou by over 2.7%).
At some point in the future value managers will be paddling down current again, and once again probably will be winning fund awards.
The absolute WORST thing an investor can do is buy the top performing funds of today, then dump them when they’re no longer any good and then buy the next top-performing funds. Doing so repeatedly you’d be guaranteed to underperform, as you’d mostly be buying funds/styles that happened to excel over a particular span of years and then selling them when they fall out of favor.
The same can be said for geographic asset classes too, looking at the various categories above. Canadian, EM, and International funds had strong returns leading up to 2007/2008; U.S. equities somewhat less so. 
I remember a lot of investors purposefully avoiding U.S. equities back then, and mostly loading up on Canadian. Advisors were complicit in Canadians' home country bias too, thinking "why bother investing outside of Canada? It'll make me look bad." The typical client at my bank had most of their money in one (or all) of the bank's Canadian dividend funds (including one of the award-winners above) and my attempts to diversify them with some U.S. and global exposure were declined, as the past returns on the funds I recommended looked awful in comparison.
What have we seen since? U.S. indices, and to a lesser extent global indices (which are now around 65% U.S.) have outperformed. Growth stocks—underperformers back then—have massively outperformed the previous outperformers. EM and Canadian equities—the best performers back then—have been duds. 
All of this will probably change over the next decade, yet once again we have people plowing their money into the regions, sectors, and styles that were the outperformers in the recent past, and actively avoiding what will likely become the next outperformers.
I don’t know if value or emerging markets will once again outperform but I’d advise simply not to make a bet in any way for or against. Here’s the final learning from the above:
Don’t buy actively managed funds. Or at least don’t make them the core of your portfolio. Myself, in my discretionary portfolios and even in my own personal holdings, I still have some active allocations, but the cores of my portfolios, which I have most of my own personal money invested in, are index-based.
I won’t say that a good advisor can find the “right” active funds for you, but some might find a place for them in your overall portfolio that provides diversification and exposure to certain niches in the world markets, but this I say unequivocally: if you’re investing on your own, you shouldn’t be touching actively managed funds with a ten foot pole.
The safer bet is to avoid picking mutual funds out of magazine articles, never pick them based on past performance alone, and stick with the lowest costing index fund.

Markus Muhs / CFP, CIM


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