Contents:
-Prospects for the 12 Most Popular Funds
-Should You Be Increasing Your Allocation to Stocks?
Chances are that you may own one of the 12 largest funds, or one very much like one of them. So let's take a look at these funds and our comments as to their prospects for the next year or two. The funds are listed in order of total assets through Aug. 31, 2002:
| Fidelity Magellan (FMAGX) | Large Blend. This most popular fund is highly
similar in make-up to the S&P 500 although it does include some
riskier stocks. Note: Closed to new investors although
still open within 401(k)s that have it as an option. Comment: Will only do particularly well if a
new bull market begins since the fund is generally not defensive. |
| Vanguard 500 Index (VFINX) | Almost exactly mirrors S&P 500. Comment: Same as above, since as an index fund, it does not allow for any choice of what might be better stocks/allocations at any given time. |
| American Funds Invmt Co of Amer;A (AIVSX) | Large Value. Comment: Has done well compared to others in its category, but currently has only 72% in stocks. Therefore, may underperform if market improves.
Note: All American Funds listed have sales load 5.75% which serves as a
drag on initial performance. (Loads may be waived within 401(k)s.) |
| American Funds Washington Mutual;A (AWSHX) | Large Value. Comment: Similar to above fund but is fully invested in stocks
so may be better choice if market improves. |
| PIMCO Total Return Institutional (PTTRX) | Comment: One of our currently recommended bond funds with vulnerability when interest rates rise. |
| AMERICAN FUNDS GRO;A (AGTHX) | Large Growth. Comment: Better performer than most large growth funds, ahead of 97% of other funds in the category according to Morningstar.com. Currently has only 83% in stocks,
so may underperform if market improves. |
| SPY S&P Depositary Receipts | Available from any brokerage firm. Comment: Same as for first two funds above since consists of all the stocks that make up the S&P 500. |
| Fidelity Contrafund (FCNTX) | Large Growth, but with some mid-cap representation as well. Comment: One of our currently recommended funds. Sales load 3%. |
| Fidelity Growth & Income (FGRIX) | Large Blend. Comment: Quite similar to S&P 500 except for uninvested cash position. |
| American Funds EuroPacific Gr;A (AEPGX) | Foreign Stock, Large Blend. Comment: Currently only 81% in stocks, therefore may underperform if market improves. |
| AMERICAN FUNDS New Perspective;A (ANWPX) | Large Growth. Comment: About 1/2 in US, 1/2 abroad. |
| Vanguard GNMA (VFIIX) | Comment: A steady bond fund performer but could underperform PIMCO Total Return (above) if economy continues to weaken. |
It is interesting to note the absence of much variety in this list with each of the stock funds focused on large cap and with a high degree of correlation to the performance of the S&P 500. Not one of these funds give exposure to smaller stocks, often a good performing group coming out of recession. (Back at the beginning of 2001, the degree of homogeneity among the funds most popular with investors was even larger with a greater emphasis on growth funds. As we now know, these were the very types of funds that subsequently performed the worst.)
Given the large bets that many mutual fund investors have made on the large cap segment, it is not surprising that their portfolios will dance to the tune of this group. This may work out for those who can be very long-term holders of these funds, riding out both the lows and highs. But unfortunately, data shows that typical mutual fund investors frequently close out a fund within a few years of opening it. Such would not be long enough to justify large, relatively undiversified bets, or to offset any loads, when one restricts oneself to primarily investing to the larger fund universe as so many investors do.
Note: Like me, you may not have ever heard much about American Funds whose funds capture four of the top 12 positions. Surprisingly, they are the third biggest mutual fund company in the country after Fidelity and Vanguard. But if you invest on your own, you would probably not have considered them since they are offered only through intermediaries, such as advisors, brokers, and in partnership with others such as insurance companies. As a result of these relationships, these funds usually carry a load.
In light of the recent snapback in stocks coupled with setbacks for some of the previously better performing bond categories, it is interesting to ask whether these trends can continue? If so, it would make sense to start adding to your stock positions or perhaps reallocating funds from bonds into stocks.
Unfortunately, it is still highly possible that the trends we are currently seeing are nothing more than a temporary spring back from deeply depressed levels for stocks and cashing in on profits in the case of bonds. But sooner or later, in spite of the general pessimism, stocks will return to making money for investors. The question is whether the past 4 weeks' action is indeed the start of a new trend.
Bonds cannot continue to make the kind of money for investors that they have over the last several years since there is a limit to how far interest rates can drop from here limiting capital gains and because low interest rates mean a low dividend component. Therefore, when money begins to flow out of bonds, investors will have to put it some place.
Since cash is not a viable long-term alternative given that rates are so extremely low, we suspect that stocks will start to turn things around at some point in the not-too-distant future. But given that the overall U.S. and world economies still seem to be headed downward rather than improving and the extreme geopolitical unknowns facing the world in the months ahead, we think it nearly impossible to say if the action of the last 4 weeks can continue to be sustained on a longer term basis.
It is certainly possible that what we are now seeing could foreshadow the direction of returns in the next year or two ahead, that is, with stocks doing better and bonds doing worse. However, we are not quite ready to suggest a change in the allocations we presented in Newsletter 69.
And in fact, by merely holding the 45% position we recommended in stocks at the beginning of last month, the gains on that portion of a portfolio will have been likely large enough in the last 4 weeks to automatically raise the amount of money invested in stocks to about 50%. But we will keep you posted if and when we change our stated allocations.
Tom Madell, PhD