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The gap between what funds earn and what investors earn

A fund reports one return. The people who owned it earned a different, lower one. The gap comes from timing, it shows up decade after decade, and it costs about as much as a bad expense ratio.

4 min readFinancial Assumptions

Key takeaways

  • A fund's published return and the return its investors actually earned are different numbers.
  • Morningstar has measured the gap at roughly one percentage point a year, repeatedly, across different decades.
  • The gap comes from timing. Money arrives after good stretches and leaves after bad ones.
  • It is smallest for people who hold one diversified fund and do nothing, which is the practical lesson.

Two different returns

A fund reports a time weighted return, which assumes you held it for the whole period. Investors earn a dollar weighted return, which accounts for when money actually went in and came out.

Those two numbers are rarely the same, and the difference is not random.

Ten year annualised return, funds versus the investors who owned themWhat the funds returned7.3%What investors earned6.3%
Average fund return against average investor return, ten years to December 2023. The difference is created by when money entered and left. Figures from Morningstar Mind the Gap.

How large the gap is

Morningstar runs this study every year. For the decade ending in December 2023 the average fund returned 7.3 percent a year while the average investor in those funds earned 6.3 percent. Roughly one percentage point, or about 15 percent of the return, went missing.

The following edition, covering the decade to December 2024, found 8.2 percent against 7.0 percent. A similar gap, a different decade.

Where it goes

Nowhere. It is not a fee paid to anyone. It is the cost of owning less of the fund during the periods when it did well.

Money tends to arrive after a strong run and leave after a bad one. Both feel reasonable at the time. Together they mean the average dollar was invested during the worse stretches and absent during the better ones.

What narrows it

Morningstar's own finding is that the gap is smallest for people holding simple, diversified, all in one funds, and largest in narrow or volatile categories where the temptation to react is strongest.

That is a practical instruction rather than a moral one. Automate contributions, hold fewer things you feel compelled to watch, and give yourself less to decide.

An honest caveat

Not everyone accepts the headline figure. Academic work by Fulkerson and colleagues argues that the true cost of mistimed buying and selling is far smaller than the gap implies, closer to a tenth of a percentage point, because some of the gap reflects when money was available rather than deliberate timing.

The direction is not in dispute. The magnitude is. Treat one percentage point as an upper bound and the lesson as unchanged.

Sources

  • Morningstar, Mind the Gap, annual study of investor returns. The 7.3 versus 6.3 percent figures cover the ten years ended 31 December 2023.
  • The following edition reported 8.2 percent against 7.0 percent for the decade ended 31 December 2024.
  • Fulkerson, Jordan, Riley and Yan have argued the true timing cost is substantially smaller than the headline gap suggests.
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