I’m generally not a fan of most actively managed mutual funds.  I think on the most part you’re paying too much for too little performance.  Most actively managed funds do not beat the index without even taking into account the higher expenses.  I’m not an absolutist, however, I think there are some quality funds and fund company.  I personally own DODFX and do think very highly of the Dodge and Cox mutual fund company.

Reading this article at Smartmoney by Jack Hough really got my gall up however.  I’ve always known Mutual Fund companies typically incubate funds before they’re allowed into the wild of retail iinvesting. Incubation involves opening a new fund to only select investors.  Often times these select investors are employees or other connected individuals.  I never thought too much of it.  I just assumed it was a way of managing the growth of a mutual fund.  If you are to believe Jack Hough, incubation is nothing more than a marketing trick to lure more suckers.  I believe Jack.

By incubating a number of different funds and only promoting the successful ones, mutual funds can effectively try a bunch of competing strategies and be right either way. Heads they win, tails you lose. After a successful incubation period, mutual fund companies then come out and market these “successful” funds showing X number of years of superior performance. The losers are tossed into the dust bin and forgotten.  If you are going to invest in actively managed funds at least look for funds with superior performance with the same manager(s) over period years while the fund has been open to investors.

Mutual funds love to tout historic performance of their funds, but this is often reflection of survivorship bias. Survivorship bias is the bias of only looking at funds (or stocks for that matter) that are still in operation. The failures are ignored.  There is survivorship bias in marketing only funds that come out successfully out of the incubation period.  Beyond incubated funds, it’s not like mutual funds ever bring attention to their poorly performing funds, and especially already liquidated funds.  Mutual funds shut down all the time because they aren’t any good, but you don’t hear too much about these losers from the fund companies.  I imagine there might be more to be learned by examining not just the record of success for a particular fund manager or company, but failures as well.  I tried tracking this information down, and haven’t had any luck other than finding aggregate numbers of liquidated funds for particular years.  Any paid users of Morningstar have access to this information?