In my Sunday, May 12 column I made an error using a database program that calculates long-term returns.

Instead of calculating mutual fund returns without taxes, I ran the calculation with the default tax rates. This reduced the returns on the ten funds from 11.30 percent to 9.10 percent. When a reader wrote that the returns for some of the funds were too low, I redid the calculations and found the error.

The error dropped the ten-fund sample--- the largest funds of that age--- from an average that is superior to the S&P 500, to an average well below the S&P 500 Index. The accompanying chart shows the data.

  

Managed Funds Returns, 1960-2001
Compares the 1960-2001 annualized pre-tax returns of the largest domestic equity funds and all domestic equity funds with Morningstar data for that period.
	5/12/02 calculation, 10 largest funds	Corrected calculation, largest funds	All 46 funds calculation
S&P 500 Index Benchmark	11.0	11.0	11.0
Managed Funds Avg.	9.10	11.30	9.75
Top/Bottom Managed Fund	10.10/6.51	12.87/7.50	12.87/5.57
Source: Morningstar Principia Pro, 12/31/01 data; Ibbotson Associates, SBBI Yearbook

  

The idea presented in that column was about risk. Since the return on managed equity funds tended to be below the return of an index fund, I said investors could invest in an index fund and add a fixed income index fund to reduce risk.   The combination could have the return of a managed fund--- but with far less risk.

Since the group of funds used in the sample had an average return slightly higher than the index, my thesis was clearly wrong---for the funds selected. If you could have selected these funds in advance, rather than with hindsight, you clearly would be better off investing in the managed fund with superior performance.

Way better.

If you had invested $10,000 in the S&P 500 Index it would have grown, at 11.0 percent, to $800,900. But if you had invested in Windsor fund (12.87 percent) your investment would have grown to $1,616,000. Similarly, your investment in American Funds Investment Company of America or American Funds Washington Mutual would each have grown to slightly more than $1,280,000--- both funds earned 12.26 percent.)

The Morningstar mutual fund database shows 91 domestic equity funds in operation in 1960. Unfortunately, performance records are available for only 46 of the funds. To see how the original idea applied to all the funds for which there are records--- as opposed to the largest and most successful ten--- I did the same exercise with all 46 funds.

The average long-term annualized return for the 46 funds was 9.75 percent. That's 1.25 percentage points less than the return of the S&P 500 Index over the period. The highest return was 12.87 percent (Vanguard Windsor), the lowest 5.57 percent (Security Growth and Income A).

Only 12 of the 46 funds provided an annualized return greater than the 10.80 percent an index fund with an annual expense of 0.20 percent would have provided. That proportion, 26 percent, is similar to the findings in other studies of managed fund performance.

That brings us back to risk. A portfolio that was 2/3-equity index and 1/3 fixed income index would have provided the same return as the average managed fund but with less risk.