What is the Turnover Ratio and Why It Matters in Investments and Business
A turnover ratio in the realm of investing is an indicator of the percentage of portfolio holdings that have been replaced in the course of one year. It’s crucial in understanding how actively a fund is managed.
Key Takeaways
- The turnover ratio varies depending on the type of mutual fund, its investment objective, and the manager’s style.
- It can result in increased costs due to trading fees and commissions.
- High turnover may lead to short-term capital gains taxable at the investor’s ordinary-income rate.
Understanding Turnover Ratio
The turnover ratio depends greatly on the specific type of mutual fund and the managing style of the portfolio manager. For instance, a stock market index fund, which mirrors a particular index, will typically have a low turnover rate. This is because it only changes holdings when there are changes in the index. On the other hand, actively managed funds may see high turnover ratios due to frequent buying and selling to achieve better returns.
The Different Meanings of “Turnover Ratio”
- In mutual funds, it reflects the percentage of the holdings replaced in a year.
- For businesses, it measures the efficiency in selling goods or using assets.
- Within a company or industry, it refers to the percentage of employees who leave within a year.
The Significance of Turnover Ratio
Although the turnover ratio itself isn’t inherently good or bad, frequent turnovers typically increase costs, impacting overall returns. High portfolio turnover raises the chance of incurring short-term capital gains, taxable at higher rates compared to long-term gains.
How to Read Turnover Ratio
While the turnover ratio should not be the sole decider in investment decisions, it provides context in comparing similar funds. Managed mutual funds typically have a turnover ratio between 75-115%. Significant deviation from this range warrants further investigation into managerial or strategic changes.
Digging Deeper: Examples of Turnover Ratios
Consider the BNY Mellon Appreciation Fund, recognized for its buy-and-hold strategy with a turnover ratio of just over 9% by the end of 2022. Conversely, Fidelity’s Rydex S&P Small-Cap 600 Pure Growth Fund exhibited an average turnover ratio of 812% by Q1 2023, reflecting a highly active management approach.
Turnover Ratio in Business Contexts
Outside investing, turnover ratio can indicate operational efficiency—a high ratio often means rapid stock selling, showcasing business effectiveness.
Employee Turnover Ratio: Insight into Corporate Health
A company’s employee turnover rate reveals the stability and satisfaction of its workforce. Industries like IT have higher rates due to high demand, while turnover in retail and hospitality points to job dissatisfaction and poor working conditions.
Checking Turnover Ratio for Mutual Funds
To check the turnover ratio of a mutual fund, refer to the latest financial statement from the issuing company. For example, Vanguard lists the turnover rate for its Health Care Fund at 19.1% in its latest report.
The Bottom Line
While the turnover ratio alone can’t determine the suitability of a mutual fund for your portfolio, it’s a useful metric for comparing funds and guiding further research to evaluate a fund’s overall performance and strategy.
Related Terms: Capital Gains Rate, Portfolio Turnover, Investment Objective, Growth Stock, Value Stock, Technical Indicator, Spread.
References
- Internal Revenue Service. “IRS Provides Tax Inflation Adjustments for Tax Year 2024”.
- Internal Revenue Service. “Topic No. 409 Capital Gains and Losses”.
- Fidelity. “BNY Mellon Appreciation Fund, Inc. - Investor Shares”.
- Fidelity. “Rydex S&P SmallCap 600 Pure Growth Fund Class A”.
- Vanguard. “Vanguard Health Care Fund Investor Shares”.
