Survivorship bias is one of the most common and momentous flaws in investment fund analysis. Previously ignored by the investment industry and the majority of financial advisers, it can lead to significant distortions in historic performance figures and poor decision making thereafter.
Survivorship bias occurs when an analyst calculates the performance results of a group of investment funds or shares using only the survivors at the end of the period (click on the diagram below).
Why does it matter?
Because fund closures are often a result of underperformance, survivorship bias tends to distort the data in only one direction, making the results seem better than they actually are. Recent research from Vanguard looking at investment fund returns all around the world over shorter (5 years) and longer (15 years) time periods evidences how significant this effect can be.
Summary
If you or your adviser are using historical fund performance data to try and cherry pick the “best” funds to invest in, it is vital to understand how any performance data has been calculated. If the performance numbers haven’t been adjusted for survivorship bias, which is unlikely, then they are highly likely to look far better than they really are. Additionally, historic performance is not always a good indicator of future results!
Swindells Financial Planning, independent financial advisers based in Seaford & Uckfield, Sussex are expert investment advisers. If you have any questions over your existing investments or would like to review their continuing suitability then please do not hesitate to contact us using the form below or call us on 01323 894 202.
