Part 1: Fidelity Funds - A Deeper Look at the Performance

Wednesday, August 19, 2015 12,666 views

It is not uncommon for us to receive questions from clients and prospects about a particular family of mutual funds. The financial media is always quick to highlight top performing managers (here is an example from Money Magazine) to entice investors into hopping on board with a particular strategy. It is undeniable that some of the largest investment companies in the world didn’t get there by being terrible money managers, but on the other hand, it is not necessarily true that their assets under management is a byproduct of stellar investment performance. Where there are cracks in any investment manager’s story about performance, salesmanship acts as the mortar.

We have written extensively about different fund families in order to start breaking apart the false foundation that many fund families build their performance reputation on. This isn’t necessarily to be the “bullies” of the investment world; rather, it is to look out for investor’s best interests and prevent them from becoming victims of good, but misleading, salesmanship. Examples include American Funds, Lord Abbott and JP Morgan, which are both incredibly large firms in terms of assets under management.

Fidelity Investments has also grown to be one of the top 5 largest investment managers in the world. With over 280 different mutual funds, a top-notch custodian platform, and over $2.06 trillion in assets under management (as of March 31, 2015), their footprint in the investment world is clearly marked. Investors may be seeking to partner with such an established firm to aid in their own financial future and as an independent registered investment adviser, we are going to act as the referee in determining whether or not Fidelity’s investment strategies are in the best interest of investors.

We are going to produce a series of articles (with this being the first) that aims to dissect Fidelity Investments as a fund family so that investors can adequately assess their track record before making such an important commitment. This particular article is going to give an overview of their overall performance across 64 different Fidelity mutual funds that have at least 20 years of performance history. We chose 20 years since anything less brings into question whether or not we have sufficient data that we can draw conclusions from or whether we are possibly “fooled by randomness.”

Our sample comes from the Morningstar Database that includes the following parameters (see table below).

As you can see, we are focusing solely on equity funds from Fidelity that have at least 20 years of performance history.  For each fund we ran their monthly performance from January 1, 1995 to December 31, 2014 and adjusted them based on the Fama/French 3-Factor Model. In other words, the annualized alpha and standard deviation of alpha has been adjusted for common-risk factors such as size and value which have been shown to reward investors over long time periods. We have produced separate performance bar charts for each of the 64 mutual funds, which you can find at the end of this article. Each bar chart indicates positive or negative alpha for every year since the inception of that mutual fund. The The scatterplot below displays the performance of each fund based on their annualized alpha and standard deviation of the alpha. You can hover over each dot to see which fund it indicates.

There are three different segments in the scatterplot:

  • First, the segment that is colored red and below the white hash mark line indicates funds that have a negative alpha over the time period examined. In other words, these funds did not outperform a benchmark of similar exposure to the market, size, and value factors.
  • Second, the segment that is colored red and above the white hash mark line, but below the orange dotted line are funds that have displayed a positive alpha compared to a benchmark with similar exposure to the market, size, and value factors over the time period examined. Although these funds have displayed a positive alpha, the alpha was not enough to be statistically significant at the 95% confidence level.
  • Lastly, there is the segment that is colored green. This segment indicates funds that have a positive alpha compared to a benchmark with similar exposure to the market, size, and value factors over the time periods examined, and is statistically significant at the 95% confidence level.  

We like to indicate to investors whether or not performance is statistically significant due to the possibility of outperformance being nothing more than luck. You can read more about our view on statistical significance here.

We also like to adjust the performance of mutual funds for known risk factors that have been shown to reward investors. This is a way to create a fair playing field for evaluating managers. You can read more about our reasoning here.

Here is a quick summary from the scatterplot above:

  • Of the 64 funds we examined, approximately half (32) had a negative alpha over the 20 years ending December 31, 2014. These are the strategies that delivered nothing of value to investors although these funds usually charge a management fee of around 1.00% on average.
  • Of the 64 funds examined, 26 had a positive alpha, but not significant at the 95% confidence level. In other words, we cannot reliably confirm that the positive risk-adjusted performance of these particular funds will persist into the future. The performance is not distinguishable from just random luck.
  • Of the 64 mutual funds examined, 6 had a positive alpha that was also statistically significant at the 95% confidence level.

We are going to delve further into these 6 funds in a subsequent article, but here is what we have to say off of the cuff. Almost all of the funds that have a statistically significant alpha are sector-based funds (software, bio-technology, healthcare, etc.). There are also a significant amount of sector-based funds that have negative alphas or statistically insignificant positive alphas. The fact that Fidelity has been successful in a couple of sectors and unsuccessful in other sectors calls into question whether or not this performance is in fact a display of skill (remember, there is still a 5% chance that this is still just random luck). You would think that a superior investment process in one sector should be applicable to other sectors. The argument of not having the right people doesn’t hold water anymore. We have addressed this issue in a previous article.

When IFA looks into partnering with an investment management company with our own portfolios, we don’t just look at performance, but also process. What does the firm believe in terms of investment strategy? How do they construct their strategies based on those beliefs? What is the process for constructing their strategies so that we can be confident that they will be able to deliver value to our investors over the long-term? To give a more practical example, IFA believes that there has been enough scientific evidence produced by the academic community that shows investors are best-suited by following a passive investment strategy. We prefer to partner with Dimensional Fund Advisors because they have displayed a process for capturing the dimensions of expected return in a very cost-effective manner that is superior to that of Vanguard or iShares. This process has been displayed across all of their investment strategies. You can read more about our view of Dimensional here.

The vast majority (91%) of funds from Fidelity that have been around for 20 years have produced nothing special in terms of performance. While financial periodicals and magazines can make all of the claims they want, we cannot say that Fidelity is a stellar investment manager. Examples like this, as well as the others aforementioned, continues to give us confidence that the best course of action for investors is to buy, hold, and rebalance a globally diversified portfolio of index funds that tilts towards the dimensions of expected return and matches their individual capacity to take risk.  


Fidelity Alpha Analysis Charts (click on each asset class to quickly drop to it)

US Large Growth (14) US Large Blend (5) US Large Value (3) US Mid-Cap (5) US Small-Cap (1) Real Estate (1) Sector (35)

 

US Large Growth

 

US Large Blend

 

US Large Value

 

US Mid-Cap

 

US Small-Cap

 

Real Estate

 

Sector

Here is a calculator to determine the t-stat. Don't trust an alpha or average return without one.

The Figure below shows the formula to calculate the number of years needed for a t-stat of 2. We first determine the excess return over a benchmark (the alpha) then determine the regularity of the excess returns by calculating the standard deviation of those returns. Based on these two numbers, we can then calculate how many years we need (sample size) to support the manager's claim of skill.

See part 2 of the Fidelity Fund performance analysis.


We have taken a deeper look at the performance of several other mutual fund companies and have come to one universal conclusion: they have failed to deliver on the value proposition they profess, which is to reliably outperform a risk comparable benchmark. You can review by clicking any of the links below:

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