The Problem with Chasing Performance of Funds

How do you pick a good mutual fund? The performance track record and investment philosophy of a mutual fund and its manager seem like good way to pick a mutual fund. If a fund has been consistently performing for years and their fund manager has a good head on their shoulders then it seems like it should be a good investment.

That is the logic that lead me to buy into Brandywine Blue (BLUEX) a couple years ago in my 401k. They'd been averaging about 13% returns for 20 years and were in the top 10% of funds. They invested with long term value in mind and scrutinized the financials of companies. They purposely avoided Enron because they "couldn't get their hands around" the company's books. Both their performance and philosophy seemed good to me. Whats not to like about them? It didn't take me too long to find out the answer.

Jump forward a couple years... their 1, 3 and 5 year performance is at the bottom 30% in their class. Their YTD performance is 16% below the index and they are dead last among funds in their class. I still don't know if theres anything "wrong" with their investment strategy per se or if something has changed. I really don't know why they are down so far right now. But the fact remains that what was a very attractive looking fund a couple years ago is now a dog.

Consider the fund CGM Focus (CGMFX) which I was looking at in summer of 2008. At that point they were averaging 35% gains for 5 years. They were up a whooping 79% in 2007. But so far in 2009 they've underperformed the S&P 500 by 16% and they're 23% behind the fund category and the year to date returns place them in the bottom 2% of funds in their category. So again we find a mutual fund with fabulous returns for the past few years which then fails to perform after that.

Now these are just 2 semi-random examples. You could also find a mutual fund that performed great for several years and has continued to do so through the recession. But how do you know if any one fund with a good recent performance history will continue to perform well in the future? You simply can't know. You've probably heard it before: Past performance is no guarantee of future results. Brandywine Blue and CGM Focus are two good examples of this fact.

Protect Your Pipes

State Farm says that over 250,000 families have damage from frozen or burst pipes every year. The costs of a frozen pipe can be pretty significant. First you may have to call a plumber to unthaw frozen pipes and/or repair broken pipes. A plumber visit will run you at least $100 you can assume. Worse yet frozen pipes may burst resulting in water damage to your home and belongings. Water damage could be very costly running you hundreds or even thousands of dollars to fix. It is a serious enough problem that State Farm is concerned with it undoubtedly due to the amount of money they have to pay due to claims from their customers.

Frozen pipes are generally preventable so don't let it happen to you. Now is the time of year you should make sure that your homes water pipes are protected against freezing.

Key tips:

Don't shut off your heat completely if going on vacation.
Insulate pipes that are exposed to outside walls or in an unheated basement or crawl space.
Disconnect garden hoses
Locate your master water shut off valve in case of a freeze

For more information check out these sites:
Red Cross page on preventing and thawing frozen pipes
State Farm's frozen pipe page.

New York Life Whole Life Policy Ad NOT Overstating Returns

I am retracting this article.

I was incorrect in my conclusion when I wrote this article originally. I originally stated that New York Life had overstated the returns on their whole life policy in an ad in Businessweek magazine. However I had mistakenly assumed that their annual policy costs were on top of the initial investment when in fact the annual premium costs were included in their calculations.

I'm leaving the original article below intact for reference, but to be clear :

The return of 3.9% stated in NY Life's ad does appear to be correct and I was wrong to declare they overstated it.

The original article as written is below.
---

In a recent copy of Businessweek magazine there is an ad from New York Life where they compare the average annual return on their $50,000 whole life policy and the S & P 500. They have a little bar chart they made up with the growth of their insurance on the left and the S&P 500 growth on the right. They are looking at 9/30/99 to 9/30/09. The graph shows that their insurance went from initial value of $15,000 to a cash value of $22,005 where as in the same 10 year period the S&P lost money dropping to $14,778. They say their insurance grew at a 3.91% rate and the S&P 500 is down -0.15%.

That all sounds fine but the problem is in the small print. At the end of the ad they have a paragraph full of detail and other info. They say that the policy is "purchased in1999 for a 35-year old, non smoking male; $648 annual premium plus $14,352 lump sum payment for paid up additional insurance" So its not a $15,000 investment it is instead $648 per year plus $14,352. Thats a total of $20,832 that you've put in. They claimed that 3.91% growth from $15,000 turning into $22,005. But you've paid more than $15,000. The total amount of money you've put in is $20,832. If you look at an investment of $20,832 growing to $22,005 in 10 years then thats a growth of 0.54%. [ This was an incorrect conclusion on my part, the 3.9% rate that NY Life advertised is actually right.] But to be fair you are getting $50,000 of insurance coverage at the same time. However to ignore that $648 you're spending a year is not realistic. Whole life policy premiums are very expensive. You can buy term life for much less. I did a quick quote on a $50,000 term policy on QuickQuote and there I found a 20 year term policy for $97.50 per year. So if you're paying $648 a year then thats about $550 more per year for the whole life policy. Whats the annual return on $14,352 lump sum and $550 a year if you end with $22,005? That works out to a 1.25% return. So compared to buying term life the real return for the whole life is 1.25% annually. Thats not horrible.

Bottom line that NY Life whole life policy return is much closer to what you might get in a basic savings account over the past 10 years. If you'd bought a term life policy and put your money in treasuries then you'd be ahead.

True the NY Life policy has beaten the S&P 500 in the past 10 years, but then that hasn't been hard to do. The past 10 years has been one of the worst 10 year stretches for the S&P500. You could have beaten the S&P 500 in several ways. If you go back just a couple years the S&P500 was trading about 50% more than it is today. Was NY Life bragging about the returns of their whole life policy compared to the S&P 500 then? No because the S&P 500 was beating their insurance policy by a pretty good margin at that point.

It seems like the NY Life policy isn't a bad return for a whole life policy but I do think their ad is a little bit misleading. I have yet to find a cash value life insurance policy that was a better value than simply buying term insurance and investing the difference.

November heat costs down 21%

After we got our home air sealed and added insulation back in August I've been trying to figure out exactly how much it is saving us on our heat bills. I just got the November electric bill so now I can see what we're saving 21% in November this year.


Reviewing the October results:

Previously I discussed the heat savings we saw in October.

October 2009 : $113.77
October 2008 : $149.30

If we assume other non-heat electricity use of $80 a month then that is a 52% drop in our heat costs for October.

Examining November's results:

The electric bill for November 2009 was $187.37 which is $28.91 lower than last year.

Electric bill
November 2009 : $187.37
November 2008 : $216.28

Assuming $80 electric costs
Heat costs
November 2009 : $107.37
November 2008 : $136.28

That represents a 21% savings in our heating costs for November this year compared to last year.

Now lets compare how cold it was this November compared to last year.

I use WeatherUnderground to find the average daily temperatures and then calculated the degree days myself. Average temperatures were about 3F degrees colder at 49F in 2008 and 46F in 2009.

November 2009 : 590 Degree Days
November 2008 : 492 Degree Days

So November 2009 was significantly colder than Nov. 2008.

I'm also working under the assumption that other electric usage through the month didn't vary significantly from 2008 to 2009.

November and October combined

If you look at October and November combined we've saved $64.44 total so far this year compared to last year. That represents about a 31% savings on our heat costs so far.