Turnover Ratio
Candlefocus EditorThe turnover rate speaks to the longevity of a position taken by the fund or portfolio manager. The percentage reflects how long the manager has held a particular security in the fund. This figure can tell investors how “actively” a fund is managed and, therefore, how much risk a fund takes on.
Low turnover ratios may indicate a buy-and-hold strategy, which suits investors who want to buy a fund and forget about it for a long period of time. Churning of stocks within a portfolio, on the other hand, implies a more active approach to investing, adding additional levels of risk.
Since a fund’s turnover rate can affect the fund's long-term performance, investors should consider this proportion when selecting a mutual fund. Lower turnover rates suggest that the fund is less likely to make speculative trades and fund performance is more likely to reflect stock returns. It also implies lower transaction costs and taxes related to capital gains due to fewer trades.
Funds with higher turnover rates, on the other hand, don’t guarantee a better performance, unless the extra trading activities add value to the fund. Excessive speculation can hurt a mutual fund’s performance, causing investors to incur high trading costs, commissions, and taxes.
The turnover ratio can provide investors with a better understanding of their potential risk, as well as the fund manager’s strategies for achieving their investment goal. While it doesn't guarantee success, it does provide investors with a baseline from which to make their decision.