Morningstar tracks 10,400 mutual funds. If only 15% beat the index funds, that is only 1500 funds. What if I take 5 to 10 of this group with track records of 3,5 and 10 years that are better than Index Funds? Doesn't that make the risk/return ratio better? No, you are still trying to pick the 'hot' funds. If you look at funds that had the best 1 year record, a small percent of them had a good 3 or 5 or 10 year record. Many had miserable years, followed by one good year. Second, you have to look at tax implications. If in a taxable account, annual distributions can cut your gains by 20% or more. There is essentially no tax due on index fund (maybe 1-2% distribution a year) vs some of Fidelity funds that produced 30% of entire fund as a cap gains distribution, on which you pay 20% cap gains tax, or six percent of your entire fund amount. I had $25,000 in taxable distributions from Fidelity this year on $130,000 worth of holdings (down from 180,000). NOt only did my funds drop tremendously, I got clobbered with at $5000 tax bill, to boot. (I bought those 15 years ago before I became "RE smart". )....I suggest you read John Bogle's book on Mutual Funds. You'll see how things regress to the mean. The index beats 80% of funds each year. It beats 90% of them over ten years. You pick ten, and 9 out of ten come up behind the index. One ahead. That one ahead has to be way way way ahead ,year after year, to even come close. (and we aren't looking at taxable stuff). I think that if you pick a dozen of last years hot funds, you are almost guaranteed to underperform the market this year.
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