The Downside

We’ve all heard it before, at the end of commercials for various investments: some semblance of a reminder that “past performance is not indicative of future results.” And it’s true—a study released last year from S&P [Standard & Poor’s] Dow Jones Indices found that it was difficult for actively managed mutual funds to stay in the top quartile over a long period of time—consistent outperformance is hard to find.

I grew up in a family of hockey players, and although Wayne Gretzky’s quote of his father’s advice has become a bit of a cliché, it is, of course, what every money manager tries to do: He wants to skate—or manage—to where the puck—or a market—will be, not where it is. Most cannot accomplish this, according to the research. The study results noted that only 3.8% of 687 funds in the top quartile—meaning the top 25%—in March 2012 had remained in that top group by 2014. The disclaimer continues to be mandated because it is true.

However, investors clearly listen but disregard. A recent survey from TIAA-CREF found that more than half of investors look to short-term performance factors as “the most important indicator of an investment’s return”—36% citing one-year performance as the most important metric and another 16% suggesting it was the previous quarter’s performance. Couple that with the research cited earlier, and it appears participants have a most damaging way of selecting investments. Chasing returns will lead to buying high and selling low, the complete antithesis of an investor’s goal.

However, that isn’t to say that passive, index investments avoid any of these behavioral biases either. After all, while actively managed funds might not outperform the market when it is up, such funds may well mitigate some of the volatility of the market cycles. When markets make large swings, the indices tracking those markets tend to reflect all of that—so participants feel the good and the bad.

And that can be dangerous, because the down market is when people may start to panic and sell. For example, in the third quarter, because of the falling market in August, a record number of people sought guidance by phone and online, according to Fidelity. In fact, the company managed more than 16 million online inquiries from individual retirement account (IRA) and 401(k) investors from August 23 through 29. In a single day—Monday, August 24—Fidelity received more than 160,000 phone calls from such investors. Over that week, customers wanted help on a range of topics: how to manage investments during periods of volatility, the pitfalls of converting to all cash and the possible reasons behind recent market dips.

Both sides of this reiterate the importance of encouraging participant and plan sponsor communication and of selecting plan design elements to keep participants invested in proper asset allocation vehicles. Reminding them of the disclaimers regarding past performance and explaining that investments in index funds will reflect most of the swings of the market should be easy to do; just adding those points to online or paper statements will ensure that, at least, the message is out there. Getting ahead of communications in times such as August is imperative to making sure participants are able to stay the course.