Manager Picking

Morningstar's Manager of the Year: Luck or Skill?

Manager Picking

Unfortunately for them, investors are constantly bombarded with advertisements, market commentaries, and screaming magazine covers telling them what they should do with their money. Contributing to all the clamor and din is Morningstar's annual announcement of their awards for "Fund Manager of the Year." As usual, investors are best served by not paying it any attention.

In order to determine whether being named "Fund Manager of the Year" engenders a valid expectation of higher returns for the fund's investors, Index Fund Advisors ran a statistical test (the t-test) of sixteen domestic equity mutual funds which received this Morningstar recognition to determine if the fund's outperformance was truly attributable to skill (95% or higher probability) or if it could be explained as luck. For each fund, the performance from the manager's inception date (or the inception date of Morningstar's benchmark in two cases) through year-end 2012 was evaluated against the benchmark designated for the fund by Morningstar. The charts below show each fund's alpha (the difference in returns between the fund and the benchmark) on a year-by-year basis. Only one of the sixteen funds (about 6%) met the requirement of the statistical test that would suggest ruling out luck as the explanation for the outperformance based on a 95% confidence level. Before you get too excited however, please note that this fund belongs to the small growth category which of has the lowest expected return per unit of risk of all the different equity style boxes. Among the sixteen funds, the median number of years needed to conclude the presence of skill over luck was 67 years. Six of the funds showed a high enough degree of volatility in their returns (relative to their benchmarks) as to require a minimum of 100 years.

Even when there is a statistical indication of skill in a manager's performance, it is often confined to a single time period and does not persist beyond it. A perfect example of this is Bill Miller of the Legg Mason Value Trust who carries the distinction of being the only mutual fund manager to have beaten the S&P 500 for fifteen consecutive years. Viewing the fifteen-year winning period alone indicates over a 99% probability of true skill, but if we broaden the scope of analysis to his entire tenure, we no longer can statistically conclude the presence of skill over luck.

Manager of the Year 2008

Manager of the Year 2007

Manager of the Year 2006

Manager of the Year 2005

Manager of the Year 2004

Manager of the Year 2003

Manager of the Year 2002

Manager of the Year 2001

Manager of the Year 2000

Manager of the Year 1999

Manager of the Year 1998

Manager of the Year 1997

Manager of the Year 1995

Manager of the Year 1994

Manager of the Year 1992

Manager of the Year 1991


In an article at titled Using 'Alpha' to Pick the Best Mutual Funds, Stan Luxenburg identified three funds that he thought had a significant alpha. He stated, "Among the top performers are Weitz Partners III Opportunity Investor(WPOIX), which has an alpha of 9.68, Sequoia(SEQUX) with 6.25, and Hennessy Focus 30(HFTFX) with 4.34." Let's take a look at how many years of data you would need before you would attribute their records to skill instead of luck.






Lastly, we take a look at the “bond king” Bill Gross and his famous PIMCO Total Return fund. As shown below, it is unlikely that he will be at the helm long enough for us to conclude that skill explains his alpha.