Can You Rely on 1 Year Returns?

The sharp recovery of global stock markets have helped some funds to meteoric returns over the past year. But investors should also consider long-term performance 

James Gard 27 May, 2021 | 11:33AM
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Many UK and European funds have been in the vanguard of the value recovery over the last year and are now topping the league tables of best performers in 2021 after a disappointing 2020.

The best performing funds over one year, according to Morningstar data, have put in some seriously impressive returns. Premier Miton UK Smaller Companies leads the pack with a gain of over 100%. Small, micro and even nano cap funds in the UK and Europe dominate the top 10 performers as these companies gear up for the economic recovery. The top five funds all returned more than 70% over the year (research shows that smaller company shares tend to outperform large caps in high-growth scenarios).

Can You Trust One Year Returns?

But the trouble with one-year comparisons is that the first and second quarters of 2020 were an extraordinary period for world stock markets, with a huge crash followed by a massive recovery. Stock analysts face the same problem, as any comparison with 2020 data makes the 2021 numbers inevitably look impressive. For example, Apple's first quarter iPhone revenue was 66% higher than the same period in 2020. Economic data has similar issues: the UK fell into the biggest recession since 1709 last year, but this year's GDP is expected to post the best growth since the 1940s. 

Morningstar's Katherine Lynch has spotted a similar trend among US funds, and says that these outsized numbers from May 2020 to May 2021 shouldn't be seen in isolation from what was going on in the markets last year. They also need to be compared against how categories and benchmarks performed. "While certainly striking, investors should take these returns with a grain of salt," she says.

In the US, the hurdle is even higher than in the UK because of strong gains from the benchmarks over the last year - the S&P 500 and Dow Jones have hit numerous record highs in recent months, for example. The best performing fund in the US, Diamond Hill Small Cap, gained 81% on last year but is still below its Morningstar Category.

We screened for funds rated by Morningstar analysts and their performance over the past 12 months; the top 10 funds can be seen in the below chart. Looking at these funds against the Morningstar UK Index, the performance is impressive. Over the year to the end of April, all of the funds are way ahead, and in the case of our top fund, more than 95% above the index. This is not a surprise as the index is dominated by large caps such as Unilever (ULVR) and AstraZeneca (AZN), whereas the top-of-the-list Premier Miton fund owns high octane small-cap stocks.

Top Performing Rated Funds Over 12 Months

UK fund performance table

 

Five of the funds in the top 10 are in the Morningstar UK Small-Cap Category, and they’ve all beaten their benchmark. But there is more variation when we take into account excess return (the amount by which a fund has outperformed its Morningstar category average return). Premier Miton UK Smaller Companies, for example, beating the category by 64 percentage points, while TM Stonehage Fleming Aim beat it by 19 percentage points. 

Look at Longer-Term Performance

When annualised return figures are taken into account, the outperformance of the category is much more modest. Morningstar uses annualised return figures to show what return investors would have achieved if they had held the fund over longer-term time periods – a fund could have had an exceptional 2020, for example, but may have been a laggard over 10 years.

Logically, these annualised numbers are lower for our funds than the one-year figures for because the past year was such an exceptional one for stock market returns. Over a three-year period, Neutral-rated Marlborough Technology is the best performer, gaining 27% on an annualised basis as it took advantage of the sector boom - and over this period it's been 8 percentage points above the category. 

What's interesting is that only one of these funds, Gold-rated Baillie Gifford American, managed double-digit outpeformance over a three year time period - this isn't surprising given that the fund returned 121% in 2020. The fund counts last year's lockdown winners Amazon (AMZN), Tesla (TSLA) and Shopify (SHOP) among its top holdings.

Last year, funds rated under the Morningstar Analyst Rating produced similar outsized returns, with Morgan Stanley US Growth the outright winner with a gain of 110%. Only VT Cape Wrath Focus, the third best performer in absolute terms over one year, failed to beat the category over three years. It has Morningstar Quantitative Rating of Negative and has 1 Star rating, refflecting this underperformance.

Some of the best performers over the year, Carmignac Emerging Markets and Baillie Gifford American, are in negative territory for the year. This highlights the difficulty of sustaining high short-term performance and also how different returns looked when you change the time periods you measure them on.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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About Author

James Gard  is content editor for Morningstar.co.uk