A study released Monday by Vanguard shows that many new indexes used to build ETFs generally do well when they are “back tested,” or applied to market data from before their inception. However, only about half beat their benchmarks after the ETF is introduced to investors, the research found.
“When historical index performance is hypothetical, the notion that past performance may not indicate future results is especially true,” said Joel Dickson, one of the study’s authors and a principal in Vanguard’s Investment Strategy Group, in a press release.
“Are back-filled data a reliable indicator of how the index will perform after it is launched? Our answer is a decided no,” the report stated.
The index average for the indexes studied by Vanguard outperformed the broad stock market at an annualized rate of 10.31%, as measured by five years of back-filled data. Yet, they underperformed the market at an annualized rate of –0.93% over the five years following the index live date.
The rapid growth in ETFs has gone hand in hand with a proliferation of target benchmarks, according to the study, entitled “Joined at the Hip: ETF and Index Development,” which notes that about $1.2 trillion was invested in some 1,400 U.S.-listed ETFs as of March 31, according to Strategic Insight’s Simfund. Today, U.S.-listed ETFs seek to track more than 1,000 different indexes.