How To Evaluate the Performance of a Mutual Fund

While mutual funds are great for instant diversification, how do you determine whether or not the mutual fund is performing well? Instead of just looking at the return over the past year, you may want to consider finding other ways to evaluate the fund's performance.

Since mutual funds have many different categories, you must know how to properly evaluate the performance of your fund. The three best ways to evaluate a mutual fund are to compare it to its track record, compare it to major indices, and compare it to similar funds. This guide will show you "How To Evaluate the Performance of a Mutual Fund".

Step 1

Compare the mutual fund's last year performance to its 5 or 10 year average. Most mutual funds (if they have been around for long enough) will publish their annualized performance over the past 5-10 years. If the fund's 5 year average is 10% and it only returned 1% last year, you know that the fund had a bad year.

However, make sure you take the economic environment into consideration. Because the market can swing wildly from year to year, it is important to broaden your view and compare your mutual fund to other investments.

Step 2

Compare the mutual fund's performance to major indices such as the S&P 500, the Russell 2000, and the Wilshire 5000. While the performance of any mutual fund may not directly correspond to any of these indices, they can be used as benchmarks for evaluating a mutual fund's performance.

Since the S&P 500 tracks the 500 largest companies, the Russell 2000 tracks the 2,000 smallest companies, and the Wilshire 5000 tracks almost all securities, you can easily find an index comparable to the mutual fund that you are researching. If not, call the mutual fund company and ask what index they use as a benchmark for the fund.

If the mutual fund in question holds mainly solid large-cap companies, then you may want to compare it to the S&P 500. If the S&P 500 gained 15% last year and your large-cap fund lost 10%, it is an obvious sign that something is wrong.

Step 3

In addition to comparing your fund to a major index, another way (in fact, the best way) to evaluate the performance of a mutual fund is to compare the fund's performance to other mutual funds within the same category. For example, a real estate mutual fund will perform much differently than a small-cap mutual fund, so this fact must be taken into consideration. If the fund you are interested in lost money while all of the other funds in its category gained 30%, your mutual fund definitely has a problem. By comparing a mutual fund to others in the same category, you can see whether or not that fund beat its peers. This comparison is easy because all of the funds in one category share the same economic environment. Comparing a mutual fund to its peers will truly show whether or not the mutual fund outperformed its rivals or not.


There are many different ways to evaluate the performance of a mutual fund, but the most effective way is to find a similar fund or index for comparison. While a 5% loss in your mutual fund may seem terrible at first, you may be pleased once you discover that similar funds lost 15%. These three steps will help you to evaluate the performance of a mutual fund by seeing how it compares to itself, a relevant index, and its peers.

 

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