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Pulled Under

Since expectations for mutual funds can be artificially sunny, consider using index funds to stay afloat.

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This story appears in the July 2006 issue of Entrepreneur. Subscribe »

According to the mutual fund trackers at Morningstar, 900 to 1,200 funds go to the Great Beyond each year. They liquidate or merge themselves out of existence. This is what happens after the funds have to carry the increasingly heavy baggage created by their own longer-term performance. Sometimes it's simpler for investment companies to fold their cards and start a new fund from scratch.

The significance of all this is what's known as "survivorship bias." Obviously, the funds that die tend to have lousy track records. So when you measure the past performance of a group of funds against a benchmark (large-cap funds, say, against the S&P 500 Index), the funds look like they performed better than they actually did because the worst performers are stricken from the record. It's like saying the average NFL team had a 10-6 win/loss record last year, ignoring the teams with losing records.

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