There is absolutely zero stability in metrics used to analyze mutual fund performance. Whether it is alpha, beta or information ratio, they all vary over time and across market environments. Using them to pick the next “winning” fund is pointless. They are, at best, a measure of what happened in the past.
We take a 200-week sliding window of midcap mutual fund returns and calculate its alpha, beta and information ratio. Here’s how these numbers stack up for the HDFC Mid-Cap Opportunities Fund.
What is apparent here is that
- There is no case for dropping a fund because of declining alpha. Alpha keeps changing through time.
- You cannot escape negative beta.
- Managers seem to be able to outperform on the way up but not under-perform drastically on the way down. This is asymmetric risk/reward for those who can stick with investments through long periods of time.
- Some argue that recent SEBI regulations on mutual fund holdings will erode alpha. Only time will tell if that is true because of (1) and (2).
- Under-performance is not permanent. See ICICI’s fund below.
What we see here is that at least in the midcap space, funds have been able to outperform the index in the past (both recent and distant.) However, that is no guide to the future.
Notes:
- The total-return index doesn’t go back long enough to be used for this analysis.
- The risk-free rate used was the 0-5 year YTM adjusted for the weekly time-series.
Code, charts and time-series alpha, beta and IR for about a dozen mutual funds that are over 10-years old are on github.