Should You Switch an Underperforming Fund?

Should you switch out of an underperforming fund? Sometimes. A disappointing return is a good reason to review your fund; whether to leave takes more evidence. Start by checking the fund still suits you, then compare it fairly with similar options, and count the cost of moving before you act.

Most fund reviews start after a weak statement, a market fall, or a conversation with someone whose fund has done better, which is a little like judging a marathon runner at the 30-kilometre wall. The moment invites a rushed decision, and rushed switches carry their own quiet cost: selling a sound fund near its low to buy a recent winner near its high. Work through the questions calmly and you should reach a much clearer decision.

The checks below apply to standalone managed funds and to the funds inside a KiwiSaver Scheme alike, although the switching mechanics and tax details differ; those are covered briefly near the end.

Hold, look closer or switch?

Every fund review should finish at one of these outcomes.

• Hold: nothing important appears wrong, and the apparent lag traces to the wrong comparison, a short period, or a style temporarily out of favour. Keep the fund and review it again at your usual annual check.
• Look closer: the lag persists across similar funds and several periods, or the people, the approach or the service you chose have changed. Read the latest fund update and ask the provider what changed.
• Switch: the fund no longer fits you, or a comparable replacement is clearly better after costs. Compare the replacement properly and count the cost before acting.

Each section below ends at the outcome it usually points to.

Does the fund still fit you?

Start with the money's purpose rather than the fund's results. Life moves: a first home may arrive sooner than expected, retirement draws closer, the invested money may carry more of the load than it once did, or a market fall may have taught you how much decline you can truly sit through. If you expect to use your KiwiSaver money for a first home in two years, protecting the deposit may now matter more than chasing long-term growth. Suitability covers how dependent you are on this money, your other assets, the stability of your income, your flexibility over when you withdraw, and how you behave when balances fall. Two investors with fifteen years until withdrawal may still need different funds if one could sit through a 30 percent fall and the other would probably sell partway down.

If the level of investment risk the fund carries no longer matches your answers, switch on those grounds promptly, whatever the performance tables say. Waiting for a better market first is a timing bet nobody reliably wins. A fund performing exactly as designed can still earn a switch, because you changed.

Is the fund genuinely underperforming?

A raw return figure means little on its own. A fund down 6 percent in a year when its market fell 10 percent had a good year; a fund up 9 percent while its index rose 15 percent had a poor one. And a balanced fund trailing a growth fund is doing its job, since it holds fewer growth assets and captures less of the upside along with less of the downside. Compare the fund with investments doing the same job for you.

The documents are free. Most managed funds publish quarterly fund updates, available from your provider or the Disclose Register, showing returns, fees, the risk indicator and the index the fund measures itself against. The product disclosure statement carries the recommended investment timeframe.

Check the fund against its index and against other funds doing a similar job for you. Treat the index named in the update as a starting point, and check it reasonably reflects what the fund owns, because a global share fund judged against the NZX 50 tells you nothing. An index fund should track its market closely, with a small shortfall from fees; an active fund charges to do something different, so weigh what it delivered after fees against what it promised.

Make sure every figure covers the same dates and the same basis, either all before tax or all after tax and fees. For funds within KiwiSaver Schemes, Sorted's fund finder does the standardising for you.

Then use a fair period. A single year rarely settles whether a fund is failing, and returns between any two dates are hostage to those dates: invest near a peak and a sound fund can look disappointing for years, review mid-drawdown and almost anything looks condemned. Look across the longest record available and more than one market environment, guided by your own investment horizon. If the lag disappears under a fair comparison, hold. If it survives, look closer, starting with whether the people, the approach or the service you originally chose have materially changed. A star manager's departure from a deep, disciplined team may matter little; the same departure from a fund built on one person's judgement matters a great deal.

Why switching to last year's winner backfires

Before acting on a confirmed lag, work out how much of it is style. Funds tilted to value lead in some markets and lag in others, then swap places with growth-tilted rivals; smaller-company funds run hot and cold against large-cap funds; a currency-hedged fund beats its unhedged twin when the New Zealand dollar rises and trails it when the dollar falls. In each pairing, both funds can be run exactly as promised while their results diverge for years, then reverse.

Leave a lagging style and you often sell just before its recovery, while buying the outperformer after its best run. As Joseph Darby, CEO of Become Wealth, puts it:

"Switching funds whenever yours lags can be like continually changing lanes in motorway traffic because another lane seems faster: you often just end up going slower."

During the early 2020 fall, moving to a conservative fund felt like taking control. The Financial Markets Authority found seven in ten recorded KiwiSaver switches in the period went to lower-risk funds. Most members reduced their growth exposure after the decline rather than before it.

Modern investment platforms make all of this temptingly easy. A switch takes a few taps, with nothing to sign, and the ease itself encourages changing lanes. Two costs survive the convenience. Many funds charge buy/sell spreads, small percentages added to the price when you enter a fund and deducted when you leave, which protect the fund's ongoing investors from the trading your movement creates. And frequency compounds: every switch is another chance to change lanes at the wrong moment. Sorted ranks past performance last among its fund-selection criteria, behind risk level, fees and service. A lagging style beside a stable team and an unchanged mandate is usually a hold.

Fees and the cost of moving

Whether a switch pays for itself starts with a simple sum, illustrated here with invented figures. Suppose $100,000 moves from a fund charging 1.20 percent a year to a comparable fund charging 0.40 percent, through a 0.10 percent sell spread and a 0.15 percent buy spread. The move costs $250, the fee saving is $800 a year, and the fee difference catches up with the switching cost within roughly four months, then continues every year after. This is a fee-only estimate, and it works only when the two funds do substantially the same job for you.

Comparable means more than sharing a label. Similar risk. Similar investments. Same currency approach. Same job for your money. A higher fee earns its place when it buys something you value, such as differentiated investments, downside management, advice or service. The saving from a cheaper comparable fund is certain, so whatever you would give up needs to be worth more.

Before any move, ask the provider a few practical questions. Will my money spend days out of the market while old units are sold and new ones bought? What spreads apply on the way out and on the way in? Does the tax treatment or my access to the money change? Changing funds within one provider is a single instruction. Transferring your KiwiSaver Scheme to another provider moves your entire balance and deserves the fullest version of the checks above; personalised KiwiSaver advice can put numbers on the comparison first. Redeeming a standalone fund passes the money through your bank account, with the longest potential gap out of the market.

On tax, the essentials are short. KiwiSaver investment earnings are taxed as they arise and withdrawals are tax-free, so switching funds within your Scheme is usually tax-neutral; Inland Revenue's guidance on how KiwiSaver income is taxed covers the detail. Check your provider holds your correct prescribed investor rate while you are there, since a wrong rate produces an end-of-year credit or extra tax to pay. Standalone and overseas-domiciled funds can work differently, so read the tax section of their disclosure documents first. If the same job is on offer for materially less, and the advantage survives the spreads and any tax, switch.

What a fund review looks like in practice

A composite scenario from our investment management work shows the outcomes being reached. A couple in their late forties planned to leave a balanced fund held for six years, because a friend's fund had returned noticeably more over three years, and they had the top fund on a popular comparison table picked out as the replacement.

The friend held a growth fund, so the original comparison was between two risk settings rather than two managers. The couple were paying a fee well above comparable funds for results close to the market. And their circumstances, stable incomes, a funded emergency reserve, no other call on the balance and a demonstrated ability to stay invested through falls, supported more growth for the fifteen-plus years until the money was needed. We recommended a switch: a lower-fee fund with a growth allocation matched to their situation, away from the table-topper they had shortlisted. Their concern was valid even though their diagnosis was wrong. Being a composite, the detail is smoothed.

Your fund review, step by step

Run it with your latest statement in front of you.

1. Confirm the job the fund is meant to do for you.
2. Check the risk still suits your timeframe and circumstances.
3. Compare fairly: the right index, similar funds, the same basis.
4. Look beyond one year.
5. Count the cost of moving, using the break-even sum on your own balance.
6. Choose your outcome, record why, then review annually or when your circumstances or the fund materially change.

Hold: the fund still fits and the reasons you invested remain sound.

Look closer: the evidence is unclear or something important has changed.

Switch: the fund no longer suits you, or a comparable alternative offers a lasting advantage after costs.

Become Wealth is an independently owned advice and investment management firm, and our fund recommendations rest on independent third-party research. If you engage us, we will explain the advice fee, any ongoing fee and how we are paid before you proceed. For a structured second opinion before switching, our advisers can compare your fund with its benchmark, similar funds, fees and your circumstances, including how long the fee difference would take to catch up with any switching costs. Book a no-obligation conversation and bring your latest statement and fund update.