Home » Finance » Mutual Funds

Portfolio Turnover: Should You Care?

Aug 18, 2007
One of the mantras of mutual fund investing is to look at a fund's turnover before you buy it. The implication is that a high turnover is bad. (Turnover is the percentage of a funds holdings that are traded during a year. Funds can have a turnover greater than 100%, which means that their average holding period per investment is less than one year.) Many mutual fund screening tools have portfolio turnover as one of their filters and you can usually find a fund's turnover (expressed as a percentage) on the fund's snapshot page or by doing a little digging on the fund's website.

Here's the first argument as to why turnover is bad. Higher turnover results in higher expenses because of higher transaction costs. This is true both for stock and bond funds, although turnover is even more relevant for bond funds. Why? Transaction costs are greater and trading spreads are wider for bonds (except for US Treasuries) than for stocks. And, the upside potential of a bond or bond fund is limited, as compared to a stock or stock fund, particularly for short maturities and high quality, so transaction costs have a greater impact on returns.

Tax inefficiency is the second argument as to why an investor should avoid mutual funds with a high turnover. If you hold your mutual fund in a taxable account, rather than in a tax-deferred account such as a 401-K or IRA, the fund's taxable gains (and losses) are taxed to you in the year they occur. The higher the turnover the greater the likelihood that these gains will be short-term and you will be taxed accordingly.

I'll add my own reason to look at turnover. Just like the kid who couldn't sit still in school, higher than average turnover might suggest a nervousness or lack of conviction on the part of the fund manager. Portfolio turnover varies by asset class. For example, small cap growth stock funds generally will have higher turnover than big cap value funds. So, turnover is somewhat relative. Some fund screeners allow you to sort for funds with turnover equal to the average for a particular fund type or you can look at the turnover ratios for funds within the same group and estimate what's the norm. Unless your fund's turnover is much greater than its peers, you shouldn't worry.

High turnover is bad, right? Wrong. For two reasons. The turnover expense is part of a fund's overall expense and all funds are required to disclose their expense ratios. (A fund's expense ratio is another sort in most fund screens and appears in its snapshot, oftentimes very near its turnover.) Unless a fund creates a lot of unwanted taxable income for you, its total expenses are of greater concern than its turnover, and a fund's expense ratio pales in importance when compared to its return. Once you've set your risk level, the best investment is the fund with the highest return, even if it has a higher turnover or higher expense ratio than its peers.

Return always comes first. Don't forget its after-tax return. So buy mutual funds with the highest returns consistent with your risk level and investment objective, and consider putting those funds with high turnover in your tax-deferred account.
About the Author
Bill Byrnes is co-founder of MUTUALdecision, a website providing mutual fund data , and the author of the MUTUALdecision Blog. He's been an investment banker with Alex. Brown & Sons and a Finance Professor at Georgetown University. He's been CEO, chairman and served on the board of directors of several public and private companies. He holds MBA and JD degrees and is a Chartered Financial Analyst with over 30 years experience in the investment industry.
Rating:
Please Rate:
(Average: Not rated)
Views: 394
Print Email Report Share
Article Categories
    • Artists
    • Gambling
    • Humanities
    • Humor
    • Movies
    • Music
    • Photography
    • Tattoos
    • Television
    • Classic Cars
    • Motorcycles
    • Recreational Vehicles
    • SUVs
    • Trucks
    • Vans
    • Branding
    • Business Opportunities
    • Careers and Jobs
    • Corporate
    • Customer Service
    • Direct Mail
    • Entrepreneurship
    • Ethics
    • Financing
    • Franchising
    • Home-Based Business
    • Human Resources
    • Import and Export
    • Leadership
    • Management
    • Market Research
    • Marketing and Advertising
    • Negotiation
    • Network Marketing
    • Networking
    • Organizational
    • Presentation
    • Project Management
    • Public Relations
    • Small Business
    • Strategic Planning
    • Team Building
    • Telemarketing
    • Training
    • Data Recovery
    • Databases
    • Games
    • Hardware
    • Networks
    • Operating Systems
    • Programming
    • Security
    • Software
    • Spyware and Viruses
    • Ask an Expert
    • College and University
    • Home Schooling
    • K-12
    • Languages
    • Online Education
    • Psychology
    • Coffee
    • Cooking
    • Gourmet
    • Recipes
    • Wine and Spirits
    • Acne
    • Aerobics
    • Alternative Medicine
    • Beauty
    • Cancer
    • Cosmetics
    • Depression
    • Diabetes
    • Diseases and Conditions
    • Fitness Equipment
    • Fitness
    • Hair Loss
    • Heart Disease
    • Medicine
    • Men's Health
    • Muscle Building
    • Nutrition
    • Skin Care
    • Supplements and Vitamins
    • Weight Loss
    • Women's Health
    • Yoga
    • Arts and Crafts
    • Babies
    • Collecting
    • Elderly Care
    • Genealogy
    • Hobbies
    • Parenting
    • Pets
    • Pregnancy
    • Woodworking
    • Feng Shui
    • Gardening
    • Home Appliances
    • Home Security
    • Interior Design
    • Landscaping
    • Affiliate Programs
    • Article Marketing
    • Auctions
    • Audio
    • Banner Advertising
    • Blogging
    • Broadband
    • Domain Names
    • E-Books
    • E-Commerce
    • Email Marketing
    • Ezines and Newsletters
    • Forums
    • Internet Marketing
    • Link Popularity
    • Pay-Per-Click
    • Podcasting
    • RSS
    • Search Engine Marketing
    • Search Engine Optimization
    • Security
    • Social Media
    • Spam
    • Video
    • Viral Marketing
    • Web Design
    • Web Development
    • Web Hosting
    • Copyright
    • Cyber Law
    • Intellectual Property
    • National, State, Local
    • Patents
    • Regulatory Compliance
    • Trademarks
    • Buying
    • Selling
    • Baseball
    • Basketball
    • Boating
    • Cycling
    • Extreme Sports
    • Fishing
    • Football
    • Golf
    • Hockey
    • Hunting
    • Martial Arts
    • Running
    • Scuba Diving
    • Soccer
    • Swimming
    • Tennis
    • Dating
    • Divorce
    • Marriage
    • Weddings
    • Astrology
    • Buddhism
    • Christianity
    • Faith
    • Hinduism
    • Islam
    • Judaism
    • Meditation
    • Metaphysical
    • New Age
    • Cable and Satellite TV
    • Cell Phones
    • Communication
    • Gadgets and Gizmos
    • GPS
    • Satellite Radio
    • Video Conferencing
    • VoIP
    • Addictions
    • Coaching
    • Goal Setting
    • Motivational
    • Stress Management
    • Time Management
    • Clothing
    • Electronics
    • Fashion
    • Gifts
    • Jewelry
    • Causes and Organizations
    • Environment
    • History
    • Holidays
    • Men's Issues
    • Nature
    • Philosophy
    • Politics
    • Women's Issues
    • World Affairs
    • Air Travel
    • Camping
    • Cruises
    • Destinations
    • Outdoors
    • Article Writing
    • Book Reviews
    • Copywriting
    • Fiction
    • Non-Fiction
    • Poetry
    • Quotes
    • Screenplay
    • Tools and Resources