The Turnover Ratio of a mutual fund is a measurement that expresses the percentage of a particular fund's holdings that have been replaced (turned over) during the previous year. For example, if a mutual fund invests in 100 different stocks and 50 of them are replaced during one year, the turnover ratio would be 50%.
Advantages of Low Turnover Ratio
A low turnover ratio indicates a buy and hold strategy for actively-managed mutual funds but it is naturally inherent to passively-managed funds, such as index funds and Exchange Traded Funds (ETFs). In general, and all other things being equal, a fund with higher relative turnover will have higher trading costs (Expense Ratio) and higher tax costs, than a fund with lower turnover. In summary, lower turnover generally translates into higher net returns.
Best Turnover Levels Based Upon Fund Type
Some mutual fund types or categories of funds such as bond funds and small-cap stock funds, will naturally have high relative turnover (up to 100% or more) while other fund types, such as index funds, will have lower relative turnover (less than 10%) compared to other fund categories.
Generally, for all types of mutual funds, a low turnover ratio is less than 20% to 30% and a high turnover is above 50%. The best way to determine ideal turnover for a given mutual fund type is to make an "apples to apples" comparison to other funds in the same category average. For example, if the average small-cap stock fund has a turnover ratio of 90%, you may choose to seek small-cap funds with turnovers significantly below that average mark.
Disclaimer: The information on this site is provided for discussion purposes only, and should not be misconstrued as investment advice. Under no circumstances does this information represent a recommendation to buy or sell securities.