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Fund's history not a crystal ball

Recently, an acquaintance of mine---let's call her Mary--- telephoned to that she thought the yields money market mutual funds were too puny and that she could do much better by investing in a mutual fund. I asked her why and she said because the fund she'd selected had historically returned an average of over 13 percent for the past three years. Mary figured it would perform about the same this year.

That kind of thinking makes me realize that the basics of fund investing are still often misunderstood. Here are three points to keep your fund expectations in line:

1. Look only at a fund's past performance and you're likely to be blindsided. Every investment pro knows that the performance history of a mutual fund is no indication of the kind of returns a fund will deliver in the future. Mutual fund investors with any experience at all under their belts know that, too.

Past performance, however, is often the only thing that investors concentrate on when evaluating a fund. While those numbers hold merit and can serve as great tools when comparing like funds, they're not the only thing to review.

"If we only focus on the past history (of a fund), " says Tom Roseen, a research analyst at Lipper. "We may make the mistake of following trends that may not be maintained in the future."

Roseen says because there is no future predictability in past performance, investors ought to look at things like who has been managing the fund. And, whether it was that person, or someone else, who created the fund's performance track record the investor has found so appealing.

Just as important as a fund's performance history, if not more so, is whether or not the fund meets an individual's investment objectives; whether it invests in the kinds of stocks, or bonds, that are in line with their tolerance for risk; and whether it's a good fit into their existing portfolio.

Checking to see whether the fund's investment style was hot or not, can impact its past performance, too. Value funds, for example, have served investors well over the last couple of years but will they now or in the future? Only time will tell.

2. Don't count on funds to turn minced meat into prime rib. As wonderful an investment product as mutual funds can be, if the market is having a rough go of things, many funds will too.

Year-to-date through February 21, for example, the average stock fund was down 6 percent, according to Lipper. The market, as represented by the S & P 500, was off 5.85 percent.

If beating the S & P 500 is one of your goals, that's not always the way it goes. So far this year, for instance, 51.67 percent of equity funds have performed better than the S & P 500. Last year, 47.60 percent out performed that index; in 2000, 60.68 percent did better; and in 1999, 51.76 percent outperformed it.

Then again, each year there will also be market over- and under-performers. So far this year, it's gold funds that are winning top awards--they're up on average over 20 percent. The top-performing stock fund thus far is the American Heritage Fund, it's up 75 percent, and the worst performing one, the Van Wagoner Emerging Growth fund, it's down over 23 percent.

3. Beating the market is one thing, but looking for plus-side returns from funds in a down market is quite another.

With more than two years behind us in which the markets have performed in minus territory, here are the stats on plus-side returns from equity funds: Year-to-date, only 8.5 percent of all equity funds have shown plus-side returns. Last year, only 17 percent did; and in 2000, 39 per cent. (In 1999, at the height of the bull market, 90 percent of equity funds had positive year-end returns.)

As you can see, while your odds of beating the market this year are currently about 50/50, picking a top-performing fund looks like it's going to be a much tougher nab. So, don't forget to look for a mutual fund's strengths in places like the professional management and portfolio diversification that it offers.

In the end, Mary's expectations are too high.Mutual funds hold no magic market potion that can eliminate the risk of investing, secure any future investment results or guarantee that an investment will beat the overall market. Investing, whether it's in individual stocks, bonds or mutual funds, is always risky and future performance always unknown.


Dian Vujovich is a nationally syndicated mutual fund columnist, author of a number of books including Straight Talk About Mutual Funds (McGraw-Hill), and publisher of this web site.

To read more articles, please visit the column archive.

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