There are common misconceptions that exist in the retirement plan industry. One is investment fund selection being dependent on three-year track records. There is nothing written in any law or regulation that requires such a thing. We contend that this idea can seem rather foolish.
Many investment consultants agree that three years has been deemed to be long enough to establish a dependable, consistent performance record for a fund—or at least that would seem to be the theory. While this rationale is generally straightforward, there are plenty of market cycle trackers who point out that sitting on the sidelines and waiting for that track record to emerge could be a good way to miss an opportunity. 
Who wouldn’t want to be on the ground floor of an early investment in Google or Amazon? Those who waited three years to do so would have missed a 298% return on the former—and a return of more than 3,000% on the other.
Think this only applies to individual stocks? Well, if your investment policy statement keeps you from considering a manager with a track record of less than three years, you’d miss out on the likes of Janus Henderson Enterprise, Putnam Large Cap Value, and American Century Mid Cap Value - strategies that enjoyed total returns of 60.32%, 48.14%, and 29.63% over their first three years, respectively.
It's not just about missing the ride up. As fund disclosures often remind us, “past performance is no guarantee of future results.” Consider the case of Lord Abbett Developing Growth and its 2.23% annualized return figure—Lord Abbett averaged more than 25% per year over the subsequent 3-year period (1978-1980).
We all know that good strategies have bad timing and vice versa. We also know that market cycles often straddle arbitrary three-year windows. A point in time snapshot that looks at a three-year window of performance can be misleading, rather than illuminating. It begs the question—is three years long enough?
Of course, there is nothing wrong with setting a standard for review. Track records can be useful metrics. There is merit in consistent behaviors in investment management, but consistent behaviors often turn in varied results as factors—and markets—are in a perpetual state of flux.
Let’s face it—there’s a reason you don’t drive your car looking out the rear-view mirror—you can’t see what’s coming down the road. And there’s a risk in blindly relying upon them to the exclusion of other factors. Particularly if you’re only doing it just because that’s the way it’s always been done - by everyone else.
Three-year track record requirements block potential opportunities and innovation. Just sayin’.
Todd Kading is President and CEO of LeafHouse.
About LeafHouse
LeafHouse specializes in creating investment solutions for retirement plans including investment fiduciary services, manufacturing investment vehicles, automated personalized portfolio programs, and enterprise technology solutions.
LeafHouse is an independent investment adviser registered under the Investment Advisers Act of 1940, as amended. Registration does not imply a certain level of skill or training. More information about LeafHouse including our investment strategies, fees, and objectives can be found in our ADV Part 2, which is available upon request. Past performance is not indicative of future results.
