Chart of the Week – September 2, 2024: Sustainable funds’ turnover ratios

Observations:

Turnover ratios, which measure how frequently securities are bought and sold, can vary considerably
Turnover ratios represent a measure of how frequently assets within a mutual fund, ETF or investment portfolio are bought and sold over a given period of time. Turnover ratios vary, in some cases by considerable margins, based on fund type or investment vehicle, investment category as well as management strategy and style. The above chart considers average turnover rates applicable to focused sustainable investment fund types and active versus passively managed investment strategies.

The average annual turnover for sustainable funds stood at 71%, but can range by fund type and investment strategy from an average of 25.6% to 78.9%
The average annual turnover ratio for focused sustainable mutual funds and ETFs, a total of 1,467 funds/share classes, stood at 70.8% as of July 31st. Across these funds, turnover ratios vary considerably from a low of 0.37% (excluding zeros) to a high of 2,372% as of the same date. Turnover ratios also vary considerably across fund types, that is, mutual funds and ETFs.

The average turnover ratios for actively managed mutual funds and ETFs are 78.9% and 48.6%, respectively, or a variance of 30.6%. The variation for index tracking ETFs as compared to index tracking mutual funds is a much narrower 7.7%. At the same time, the average turnover ratio for index tracking funds stood at 31.3% while for actively managed funds, including mutual funds and ETFs, the average turnover ratio is over 2X higher with an average of 77%. Average weighted turnover ratios are lower, but the range of the variation between index and active funds is largely unchanged.

Understanding the turnover ratio helps investors make more informed decisions about their investments
While turnover ratios may not be one of the top considerations when selecting a mutual fund or ETF, investors should pay attention to a fund’s turnover ratio along with fund expenses, which are reported in a fund’s annual and semi-annual reports, for several reasons: First, high turnover ratios indicate frequent buying and selling of assets within the fund, which can lead to higher transaction costs on top of management and administrative fees that are separately reported. Trading costs, which are not explicitly reported to investors, are passed on to investors and they serve to reduce overall returns. Second, funds with high turnover ratios may generate short-term capital gains, which are taxed at a higher rate than long-term capital gains. This can result in a higher tax burden for investors. Third, the turnover ratio can provide insight into the fund’s investment strategy. For example, a high turnover ratio might suggest an aggressive, market-timing approach, while a low turnover ratio might indicate a buy-and-hold strategy. A high turnover ratio can also point to the use of derivative instruments, such as futures, options or swaps. This factor helps to explain the highest 2,372% turnover ratio recorded by the BlackRock Impact Mortgage Fund. Finally, while not a definitive indicator, the turnover ratio can sometimes correlate with fund performance. Funds with lower turnover ratios often have lower expense ratios, which can positively impact returns.