 |
| > Investing > Investment Insights |
 |
| October's Mutual Fund Red Flags |
| by
Paul Herbert
| 10-24-06 |
|
|
This article originally appeared in Morningstar FundInvestor, an award-winning newsletter that presents investment strategies and tracks 500 funds.
Red Flags is designed to alert you to funds' hidden risks. Such risks can take many forms, including asset bloat, the departure of a solid manager, or a focus on an overhyped asset class. Not every fund featured is a sell, and in fact some are good long-term holdings. But investors should be prepared for a potentially bumpier ride in the near future.
Related to our feature article this week in Investment Insights about asset bloat and American Funds, we're flagging three funds from American because their portfolios have undergone significant structural changes during the past five years. Managers of growing stock funds face higher trading (or "market-impact") costs because their transactions compose more of each stock's volume.
The bosses at American have tried to deal with these costs by beefing up their investment staff, which should help to split trading decisions among more people. Still, it's clear that the funds have changed in other ways, by adding holdings and flocking to larger stocks (because a greater number of their shares regularly exchange hands). Such alterations may make it more difficult for the funds to trounce their peers and benchmarks the way they have during
the past few years. Plus, for most offerings, we've also seen an increase in performance overlap with the S&P 500 Index, as indicated by higher five-year R-squared figures.
The case for flagging the funds listed below isn't cut-and-dried. For all of our cautious tones on asset bloat, we can't point to a rock-solid cause-and-effect relationship between large or growing asset bases and the erosion of excess returns. Besides Fidelity Magellan and perhaps one or two Janus funds, bigger large-cap funds tend to hold up just fine after becoming stuffed. Then again, we also haven't seen any funds with such large asset bases that have experienced such quick and dramatic growth as we have at American, which makes us wonder if our past experience is really much of a guide when we examine the funds' prospects.
Overall, these funds are not "sells." In fact we think there are compelling reasons to continue to recommend them for the most part. We just think they've changed enough that you should consider whether they still fill the same role in your portfolios.
|
|
1
|
2
 |
|
|
|
|
|
|
|
|
 |
|
Manager's View Participants
|
|
|
|
|
|
|
Follow us on Twitter
