Many investors and advisors believe that mutual funds with buy-and-hold strategies outperform those that trade their stocks frequently. The latter are known as “high-turnover” funds.
A fund with a 100 percent turnover rate holds each investment for an average of one year before selling it. The higher the ratio, the more a fund churns its portfolio. On average, U.S. stock funds have a turnover rate around 93 percent
High-turnover funds may underperform because they have higher trading costs, from multiple transactions. Also, they may incur taxable gains (including highly-taxed short-term gains), which are passed through to investors.
However, a new academic study concludes that small funds with higher turnover tend to outperform lower-turnover small funds. Especially if a fund has had a few sub-par years, low turnover may indicate it’s sticking to its losers–and might signal that it’s time to switch to a fund with more energetic management.
