A new study concludes that an investor shouldn’t consider owning an actively managed mutual fund unless they are willing to trade often; instead, simply buy and hold an index fund. Mark Hulbert for The New York Times reports finance professor Jonathan B. Berk of U.C. Berkeley together with Ian Tonks, finance professor at University of Exeter in Britain came to this conclusion in their study, "Return Persistence and Fund Flows in the Worst Performing Mutual Funds". The report is based on the study as to why fund flows affect returns, assuming many managers have a special stock-picking ability. The study points out:

• Few mutual funds beat the market over the long term because investors shift too much money into the successful ones. Fund managers become swamped with more money than they can profitably invest, causing a less than desirable performance.
• What this means is a fund manager will beat the market and attract more assets until he is no longer successful.
• The theory predicts the probability is low a top-ranked fund will remain there long.  This can be seen historically in funds that beat the market, but were not able to continue for longer than a few months.
• The theory also suggests it is easier to beat the market with a smaller portfolio than a larger one. That said, as investors shift money out of a lagging fund, its size should stabilize, giving the manager the opportunity to perform.  However, this was not proven true, because investors do not always sell their poor performing funds.
• Those loyal investors have their reasons for sticking with the low-performing funds, but it means those who are not "loyal" need to be more vigilant in order to avoid holding the worst performing funds.
• These investors should check their funds quarterly, paying close attention to how they rank.

Professor Berk suggests sticking with ETFs and index funds is easier and less work than the constant monitoring of managers and their funds.  An actively managed mutual fund is just that-you need to be active on checking them so you don’t hold a fund that lags behind the market.

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