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Jensen Growth Fund Outperformance? It Depends on How You Frame It

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A recent article was published on MarketWatch whose provocative title made our eyebrows rise with curiosity. The title read, “How This Stock Fund Routinely Beats the S&P 500.”

Let’s just pause right there for a second.

Whether or not the intent of the article is to genuinely highlight a superior investment manager or just to build hype and raise eyebrows, we think that readers should treat this type of commentary as on a similar field to the stories produced by US Weekly or The National Enquirer……pure entertainment.

What is unfortunate is that the latest celebrity gossip does little to no harm to other individuals, while even making the slightest inclination that investors should gear their hard earned savings towards an active fund manager can actually do some irreversible damage.

Without going into too much detail about some of the points the author highlights as to why this fund, which happens to be the Jensen Growth Fund (JENSX), is so great, we usually just go straight to the performance data to see what is really going on under the hood.

Lo and behold, this particular author seems to be suffering from a case of bad benchmarking. Simply put, he is comparing two distinctly different subclasses of stocks. While the S&P 500 includes the biggest 500 companies within the United States, the Jensen Growth Fund is focusing on a particular subset of those companies, mainly large companies that have had high earnings growth and high price-to-fundamental ratios (i.e. growth stocks).

Why is this important?

Because the risk characteristics associated with the Jensen Growth Fund are different than that of the S&P 500, which is made up of both growth and value stocks). A more proper benchmark would be something like the Russell 1000 Growth Index since it is more representative of the types of stocks the Jensen Growth Fund is gaining exposure to.

Once we acknowledge this discrepancy, the next question we must ask is, “if we want exposure to US large cap growth stocks, is it better to partner with an active manager or buy a low cost index fund like the Vanguard Growth Index (VIGAX), which yields an expense ratio of just 0.08%?”

The chart below displays the annual historical performance of the Jensen Growth Fund against the Russell 1000 Growth Index since inception.

As you can see, in its 23 year history, the fund has actually underperformed its proper benchmark by -1.23% per year. Obviously there were some years in which it outperformed, but making a long-term commitment to this particular fund has proved disastrous. To put it slightly different, a dollar invested in this particular fund at inception would have only grown to 3/4 of the amount an investor would have had if they would have just bought and held a simple US large cap growth index fund, which is substantial.

Another interesting question to ask is whether there is a simple explanation of this perceived outperformance (which we have already proven false)? Here is an idea, how has growth stocks in general done versus their value counterparts over the last decade? Could that possibly explain the author’s conclusion?

In fact, for the 10-year period ending 08/12/2016, the Russell 1000 Growth Index has outperformed by the Russell 1000 Value Index by 3.40% per year. Performance is shown below.

Index 10 Year Return
Russell 1000 Growth Index 9.68%
Russell 1000 Value Index 6.28%

Does this mean that growth stocks are a better long term investment than value stocks? Of course not! In fact, based on 88 years of annual returns, US large cap growth stocks have outperformed US large cap value stocks over 10-year periods about 26% of the time. In other words, it isn’t rare to see these types of performance figures, but we wouldn’t suggest that investors should expect it to happen that often.

While these types of stories make for good entertainment, investors should place them firmly into the same category as reality TV or stories in the tabloids. Anyone can turn an active investment manager into a hero by simply comparing them to a bad benchmark that isn’t a good representation of that manager’s stock exposure. But even beyond bad benchmarking, more often than not there are basic explanations for why there is a perceived superior investment performance that simply does not exist.

On a more serious note, financial commentators need to be put under more scrutiny. While this is not an endorsement for this particular fund, you can bet that some investors who do not know any better may be looking to put a large chunk of their nest egg into something like this or similar to this. As history as shown, there could be devastating consequences for doing so.