Forbes Mutual Fund Ratings

What can you expect from a stock fund? That depends on how bullish the fund is, and whether you get a bull or a bear market next. Funds that are at the head of the class when stock prices are going up are likely to do worst when prices are headed down. Defensive funds that lag in bull markets do the best in bear ones.

That dichotomy is behind the fund rating system that Forbes has used since the early 1960s. We award separate performance grades for bull and bear markets. We think it's more informative than the usual straight-line performance history.

Here's what's wrong with just comparing funds over some fixed number of years: Unless your measurement period happens to cover a full market cycle, it's likely to give you a very distorted view of the abilities of the fund manager. Just now a five-year performance comparison would make any high-risk fund look devilishly clever. But that sort of fund is likely to get killed in the next correction

To grade funds, we look at what happened over two full cycles of up and down markets. That takes us back to August 2000. There are 942 funds buying predominantly U.S. stocks that have been around long enough to be evaluated this way. (Funds with less than $50 million of assets are excluded.)

You can get a good sense of a fund's character from these grades. American Century Equity Income is a conservative investor, with a grade of A+ for bear markets and an F for bull markets. Berkshire Focus is the polar opposite: F in bear markets, A+ in bull ones. Buy an A+/F fund if you are a timid investor. Take a chance on an F/A+ only if you know you won't sell out in a panic after a market dip.

We award grades on a curve: The best 5% get an A+ and the worst 5% an F. A fifth of the class gets a straight A and a fifth a D. The Bs and Cs each go to 25% of the funds.

An unusually strong or weak performance in any one market segment is likely to have a large component of luck in it, so we scale back outlier results before putting them into the averages. The more recent market cycle (the Oct. 31, 2007-Feb. 28, 2009 period for down markets and Feb. 28, 2009-Mar. 31, 2014 for up markets) gets a higher weight.

Our raw performance numbers come from Lipper. Expense ratios are for what Lipper classifies as the primary share class (which is sometimes a retail share class and sometimes an institutional one); assets are for all share classes.