It is obviously important when considering the performance of a mutual fund to measure its performance correctly. It is also critical to make fair comparisons and judgments both in terms of time and benchmarks.

Consider the Strong Growth Fund, a $2.8 billion no-load fund in the large-cap growth category. This fund had a return of 75 percent for 1999 and –9 percent in 2000: How did this fund perform? On average, over the two years, it had a return of [(+75 –9) /2], or 33 percent, a seemingly outstanding performance. However, we need to analyze this in more detail:

1. It outperformed the market in 1999 but not in 2000. In 1999, the market was up, but nothing like 75 percent, and in 2000 the market was down about the same as this fund.

2. It outperformed its peer group for these two years, with a differential of +36 percent in 1999 and +4 percent in 2000.

3. On a three-year basis it outperformed both its peer group (13 percent vs. 6 percent), and the S&P 500 Index (13 percent vs. 5 percent).

4. On a five-year basis, it outperformed its peer group (14 percent vs. 13 percent), but not the S&P 500 Index (14 percent vs. 16 percent).

As we look at this fund in more detail, we find it had a spectacular performance in 1999, with a 75 percent return. Is this likely to happen again? The odds are clearly very low for this or any other fund to accomplish such a feat again. It was a spectacular year in 1999 for many funds and investors because of the overheated technology market—such a year may be a once-in-a-lifetime event.

It is interesting to note that this fund had an average (1998–2000) calculated turnover ratio for its portfolio of 313 percent, an astounding amount by any standard. Much of this trading appears to have been successful, given the returns and the comparisons to Strong Growth's peer group.

As we shall see later, taxable gains for a mutual fund can be a strong detriment for shareholders. In Strong's case, with so much turnover, it is clearly generating considerable gains and losses. In fact, Strong does not compare well to industry standards with regard to tax efficiency and it is probably best suited for a tax-deferred retirement account.

Then we come to the five-year comparisons. Strong Growth has not been in operation long enough for a 10-year comparison. Although Strong Growth bested its peers, on average, over this five-year period, it did not beat the S&P 500 Index. Thus, an investment in an S&P 500 Index fund would have been superior, at much greater tax efficiency, and with lower costs.