Loading the player...

What is 'Window Dressing'

Window dressing is a strategy used by mutual fund and other portfolio managers near the year or quarter end to improve the appearance of a fund’s performance before presenting it to clients or shareholders. To window dress, the fund manager sells stocks with large losses and purchases high-flying stocks near the end of the quarter. These securities are then reported as part of the fund's holdings.

BREAKING DOWN 'Window Dressing'

Performance reports and a list of the holdings in a mutual fund are usually sent to clients every quarter, and clients use these reports to monitor the fund's investment returns. When performance has been lagging, mutual fund managers may use window dressing to sell stocks that have reported substantial losses, replacing them with stocks expected to produce short-term gains to improve the overall performance of the fund for the reporting period.

Another variation of window dressing is investing in stocks that do not meet the style of the mutual fund. For example, a precious metals fund might invest in stocks in a hot sector at the time, disguising the fund's holdings and investing outside the scope of the fund’s investment strategy.

Example of Window Dressing

A fund investing in stocks exclusively from the S&P 500 has underperformed the index. Stocks A and B have outperformed the total index but were underweight in the fund. Stocks C and D were overweight in the fund but lagged the index. To make it look like the fund was investing in stocks A and B all along, the portfolio manager sells out of stocks C and D, replacing them with, and giving an overweight, to stocks A and B.

Monitor Your Fund Performance

For investors, window dressing provides another good reason to monitor your fund performance reports closely. Some fund managers might try to improve returns through window dressing, which means investors should be cautious of holdings that seem out of line with the fund’s overall strategy. The act of window dressing is under close watch by investment researchers and regulators with potentially forthcoming rules that could require more immediate and greater transparency of holdings at the end of a reporting period.

While window dressing overall can help a fund’s returns in the short term, longer-term effects on a portfolio are typically negative. Investors should pay close attention to holdings that appear outside of a fund’s strategy. While these holdings may show higher short-term performance, over the long run, these types of investments drag on the portfolio’s returns, and a portfolio manager cannot often hide poor performance for long. Investors will certainly identify these types of investments, and the result is often lower confidence in the fund manager and increased fund outflows.

Window dressing also occurs across various other industries to improve a company's return. Companies can offer products at discounted prices or promote special deals that enhance sales for the end of the period. These promotional efforts seek to increase the return in the final days of a reporting period.

Who Engages in Window Dressing

Though disclosure rules are intended to aid in increasing transparency for investors, window dressing can still obscure the practices of the fund manager. A study by Iwan Meier and Ernst Schaumburg of Northwestern University found that certain characteristics of a fund can signal that the manager may be engaging in window dressing. Specifically, growth funds with high turnover and manager who have recently posted poor returns more often window dress.  

RELATED TERMS
  1. Discount Window

    Discount window is a central bank lending facility meant to help ...
  2. Fund Manager

    Fund managers oversee portfolio of mutual or hedge funds and ...
  3. NAV Return

    The NAV return is the change in the net asset value of a mutual ...
  4. Equity Fund

    An equity fund is a type of fund that uses investors' capital ...
  5. Fund Company

    Fund company is a commonly used term to describe a corporation ...
  6. Pooled Funds

    Pooled funds aggregate capital from a number of investors, as ...
Related Articles
  1. Investing

    Microsoft Windows 10 for Workstations Leaked

    A new version of Windows 10 that appears targeted at high-power computers has accidentally leaked.
  2. Tech

    Microsoft Willing to Pay Up to $250,000 for Windows Security Bugs

    Every part of Windows is now covered by the company’s bug bounty scheme.
  3. Trading

    Tech's Big Guns Could See Upside During Mark-Up

    These Nasdaq-100 tech winners could gain ground into early July as fund managers tidy up their quarterly performance reports.
  4. Financial Advisor

    5 Characteristics of Strong Mutual Fund Shares

    Discover some of the basic characteristics shared by good mutual funds that investors can use to help them in selecting funds.
  5. Insights

    Microsoft Backs Away From Windows 10 Goal (MSFT)

    Microsoft backs off from its goal of reaching 1 billion devices to run on Windows 10 by the middle of 2018
  6. Investing

    Liquidation Blues: When Mutual Funds Close

    Underperforming mutual funds can be liquidated, leaving investors down and out.
RELATED FAQS
  1. Do minimum wage laws make labor a fixed or variable cost?

    Find out why labor is a classified as a semi-variable cost by the minimum wage laws; labor has elements of both fixed costs ... Read Answer >>
  2. How do I judge a mutual fund's performance?

    Evaluating a mutual fund's performance and choosing one or several that meet your investment goals and risk tolerance involves ... Read Answer >>
Trading Center