Lower expense ratios are a "proven" predictor of an investment fund's ultimate performance, according to new research from Morningstar.
That conclusion will come as little surprise to many. Morningstar's most recent research on how costs affect fund performance builds on previous studies with similar results.
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"The expense ratio is the most proven predictor of future fund returns," wrote Russel Kinnel, chair of Morningstar's North America ratings committee and author of the most recent research.
Kinnel said the most recent data underscores how "strong and dependable" fees are as a predictor of future success.
The cheapest mutual and balanced funds were at least two to three times more likely to succeed than the priciest funds, he said.
Kinnel said fees should not be used in isolation by investors in choosing investments, but at the very least, they should make fees the "first or second" test in making investment decisions.
Kinnel used several measures to determine an overall "success ratio" for investments, including total return over several time periods, load-adjusted returns, standard deviation, investor returns, and Morningstar ratings.
Funds were grouped by peer group into quintiles based on fees. Lower expense ratios were a determinate for success in every asset class from 2010 to 2015. For U.S. equity funds, the cheapest quintile had a success rate of 62 percent compared to 20 percent for the priciest quintile.
"The cheaper the quintile, the better your chances," said Kinnel.
The trend of cheaper being better for investor returns held true for other asset classes. International equity funds had a 51 percent success ratio in the cheapest quintile, compared to 21 percent for the most expensive funds.
Balanced funds, including target-date funds, had 54 percent success ratio for the cheapest quintile, compared to 24 percent for the most expensive funds. With taxable bond funds, the cheapest quintile delivered a 59 percent success rate, compared to only 17 percent for the most expensive funds.
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Nick Thornton
Nick Thornton is a financial writer covering retirement and health care issues for BenefitsPRO and ALM Media. He greatly enjoys learning from the vast minds in the legal, academic, advisory and money management communities when covering the retirement space. He's also written on international marketing trends, financial institution risk management, defense and energy issues, the restaurant industry in New York City, surfing, cigars, rum, travel, and fishing. When not writing, he's pushing into some land or water.
