Excerpted from Common Sense on Mutual Funds by John C. Bogle, pages 128-129
Survivor bias is a second significant factor in enhancing fund returns. When we look at a 15-year comparison, for example, we look at only those funds that have survived the entire period. That turns out to be quite an accomplishment, for about one-fifth of all funds that existed at the start of a typical 15-year period are no longer around at its finish. They may have simply been liquidated, or, more likely, merged into other funds in the same fund complex. But, however they vanish, it is those that have failed to deliver competitive returns that tend to disappear. Their results have been carefully measured in several academic studies. In one of the most comprehensive studies of its kind, Princeton Professor Burton Malkiel (author of the best-selling A Random Walk Down Wall Street) found that, during the 10-year period from 1982 to 1991, 18 percent of funds - 59 of 331, or nearly 1 of every 6 - had come and gone.* During that period, the survivors enjoyed annual returns of 17.1 percent per year, but all funds together provided returns of only 15.7 percent per year. This survivor bias had therefore enhanced the annual returns reported by funds by fully 1.4 percentage points over the actual returns earned by the funds during that 10-year period. What is more, during the 15-year period ending in 1991, survivor bias accounted for an astonishing 4.2 percentage points annually. For the purpose of argument, then, let's conservatively reduce the average fund return reported for the past 15 years by 1 percent, moving the fund return after the sales-charge adjustment, mentioned above, to 12.6 percent. The gap below the Wilshire 5000 Index return of 16.0 percent than grows to 3.4 percentage points.
*In a later study, Professor Mark Carhart found that fully one-third of all stock funds disappeared from 1962 to 1993, and the Malkiel study showed that, even in as short a period as 1988-1992, 100 of the original 686 funds disappeared, a mortality rate of 15 percent. More recently, in 1993-1998, the halcyon period of mutual fund prosperity, about 600 equity funds vanished.
