January 24, 2017

The Mother Of All Predictions?

Financial pornography probably doesn’t get any worse than this. 

Yesterday, a series of write-ups in ET Wealth on SIPs were brought to my attention.  For the most part, these were typical of the mediocre stuff that makes up most analysis of mutual funds, and were interspersed with the odd bit of common sense advice.  Somewhere in the middle, a table caught my attention with its provocative title: “Best equity funds for 10-year SIPs”.  But it was the subtitle below which stunned me into realizing that this was not just a case of catchy phrasing:

These equity funds are likely to deliver the most consistent returns over the next 10 years.

It took my breath away.  My first thought was to wonder who was the pompous prognosticator behind the table, and how on earth had something this inane passed the editorial desk of the newspaper/ magazine (not that I have a great opinion of their standards).  It turned out the brain behind this (if I can call it that) is some research firm (if I can call it that) which, it would seem, enjoys enough credibility with the newspaper to warrant a detailed mention.  According to the piece, the firm had “conducted an elaborate research that looked at the performance of equity funds and the investment philosophies they followed.”  It went on to explain the broad methodology.

To be fair, I have not read the research.  I don’t know if it is available in public domain and, call me biased, I don’t care.  There is so much that is dubious about the stuff presented in ET Wealth that I wouldn’t want to waste my time.

1. The use of that much-abused word: “consistent”.  What can one mean by “most consistent returns”?  In an earlier post on my other blog, I had quoted an industry insider as saying that ‘consistent’ was “the best word to use when you don’t have good performance to show.”  I’d like to add to that and say that it also a useful word for anyone who doesn’t want to be held accountable for his/ her claim of performance (or, in this case, prediction of future performance).

2. The audacity to predict things over as long a period as 10 years.  If there is one thing that is certain about stock markets, it is that there will be uncertainty.  Forget 10 years: it is anybody’s guess as to what will happen a day ahead, or a week, month or year ahead.  Fact is, 10 years ago, three of the six schemes identified were not even in existence.  And if reports are to be believed, around eight years ago or so, one of the fund houses in question was seriously thinking of shutting down its business.

3. The ignorance to predict SIP returns.  I have pointed out, time and again, of the frequent difference between the returns of a fund and the returns of investors doing an SIP.  While a fund’s return does influence the SIP return, the extent of that influence depends on the pattern of NAV movements over the period.  Even if we believe that a more competent fund manager is likely to generate better fund returns than a less competent one, the pattern of NAV movements may make it possible for a SIP in a poorly performing fund to give a better return than a SIP in a well performing fund.  More importantly, neither can a fund manager control the pattern of NAV movements for a fund, nor is it possible to predict the future pattern for any fund.  For a good example of how vast a difference there can be, even over a period of 10 years, check out the data in this post.

Lastly, for whatever it is worth, among the shortlisted schemes, the two schemes with the longest track record have been given an Analyst Rating by Morningstar.  Morningstar’s Analyst Ratings are regarded by some as the best forward-looking ratings of mutual fund schemes.  As it happens, one of those two schemes has a Bronze rating while the other has a Neutral rating.

The title is courtesy of a long time reader of the blog who also brought the research in question to my attention.

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