CHICAGO. Hundreds of financial planners gathered here at the annual Morningstar mutual funds conference last week, trying to cope with an unusual problem: in the last year, selections for their clients often returned 16, 17, or even 18 percent. In spite of that, their clients were disappointed.
Yes, disappointed. No matter that at 17 percent you’ll double your money in less than 5 years. No matter that it approaches twice the historical average return on equity investments. Much of the public deemed it inadequate.
The most widely discussed example is Fidelity Magellan, the largest mutual fund in the world and the largest holder of retirement assets. In the 12 months ending May 31, Magellan provided a return of 20.79 percent, 8.61 percent less than the Standard and Poor’s 500 Index. It would be nice if this was just a problem for Fidelity… but while competitors cluck and point fingers at $57 billion Bad Dog FIDO, the real news is that under performance is endemic. During the same period, the average domestic equity fund provided a return of 15.44 percent, some 13.44 percent less than the elusive index.
So before you fire or beat up your advisor lets take a look at just how difficult it is to select funds that will do well: lets see what happened with the choices the experts at Morningstar made in their 401k plan. Just remember the caveat from last year still applies: this is not an official portfolio, it is a defacto portfolio that represents the aggregate choices of Morningstar employees. If they made good choices, they beat the market. If they didn’t make good choices, they trailed like everyone else. In addition, many individuals changed funds during the year so the composition of their holdings probably changed significantly during the year. Here’s the list, ranked in order of employee preference, plus three funds added last spring in an expansion of the plan:
- Brandywine. This popular growth fund had 15.9 percent of Morningstars’ 401k plan money in March, 1996. In the year ending May 31, the fund returned 16.39 percent, better than the average domestic equity fund but still 13.01 percent short of the S&P 500 index.
- PBHG Growth. In their second most popular holding, Morningstar fund watchers suffered the most with a 17.15 percent loss that put the fund 46.55 percent below the S&P 500 index… and in the bottom 5 percent of all small company funds.
- Fidelity Disciplined Equity. After years of superior performance, this fund had a second disappointing year with an 18.81 percent return, 10.59 percent below the index. But Morningstar acted last year: “We had (the fund) as a value-added S&P 500 fund and that’s what it did most of the time.”, Don Phillips said last June. “But …the fund trailed the index by 800 basis points ( in 1995) and we expected greater, well, discipline than that. So we have substituted the PIMCO Stocks Plus fund because it seems more likely to deliver the performance of the index with some value added.” It did. PIMCO Stocks Plus returned 30.80 percent, 0.80 percent more than the index.
- Vanguard International. This fund provided superior performance for its category… but international investments trailed the U.S. market.
- Lindner Dividend. Another disappointment with a return of 5.70 percent, in the bottom 10 percent of income funds.
Each of the funds listed above accounted for at least 10 percent of Morningstars’ 401k plan assets in March, 1996 and together accounted for about two-thirds of all assets in the plan.
- Fidelity Low- Priced Stock. A nice 20.19 percent return from a small company fund still trailed the you-know-what.
- Gabelli Asset. A 16.95 percent middle of the road return.
- Montgomery Emerging Markets. This fund returned 11.55 percent, a middle of the road performance for emerging market funds. But, like Disciplined Equity, it was replaced.
- Templeton Developing Markets returned 22.56 percent, putting it in the top half of the category.
- Selected American Shares. The best performer in the group, fund manager Shelby Davis ( see 6/30/96 column interview) blasted past the index with a return of 37.59 percent.
- T. Rowe Price New Era. This natural resources oriented fund returned 17.67 percent.
- T. Rowe Price New Income. The only pure bond fund on the list and holding only 1.2 percent of plan assets, this fund returned 7.69 percent, a middle of the road return for the category.
- Colonial Newport Tiger. A new addition last year, this Pacific ex-Japan fund was also middle of the road… but returned only 2.67 percent.
- Domini Social Equity. Also added last year, this socially oriented fund returned 30.57 percent, making it one of three funds in the plan that beat the index.
- Fidelity Real Estate. The third fund added last year, this specialized fund returned 32.28 percent and beat the index.
Of 14 funds selected by, and available to, Morningstar employees, only 3 beat the Standard and Poor’s 500 Index. Eleven of the 14, however, were in the top 50 percent of their category. Maybe they aren’t doing so badly, after all.
Rather than beat up the managers and planners, it may be time to recognize a mania and avoid it rather than join it.
How do you do that? One word: diversify.
This information is distributed for education purposes, and it is not to be construed as an offer, solicitation, recommendation, or endorsement of any particular security, product, or service.
Photo by Anna Nekrashevich
(c) A.M. Universal, 1997