Last year really rocked the investment world. We saw
huge returns for U.S. equities and meager returns for
emerging markets. Bond funds were hard-hit, too. But
here I’ll focus on the five-year rally in U.S. stocks.
Last year was such a big rally that it was enough to
make or break a five-year record. With the
2008
bear
market out of the five-year figures, the effect was
magnified. Today, aggressive funds are once more at
the top and cautious funds look woefully out of
touch. I could have said the same thing in
2007
or
1999
. Those times you’d have done well to dump
your aggressive funds because a bear market was
on the way. Markets are rarely so tidy as to fit a
pattern closely, but it is something to keep in mind
when looking at returns, especially three- and five-
year returns.
Even for a period as long as five years, you can see
pronounced biases in the market. The challenge
for investors is to correctly account for that as well
as the likelihood that those biases will reverse.
I see the challenge every day in our Morningstar
Analyst Ratings meetings. We thrash through the data
to figure out what to really make of a fund’s five-
year numbers. We don’t want to overreact to five-year
figures, but we also want to give proper credit
or blame—we’re not giving any free passes out.
Our Analyst Ratings are long-term ratings of a fund’s
risk-adjusted prospects. We care about risk because
investors fare much better with low- to moderate-
risk funds, whereas they suffer poor timing in high-
risk funds.
In
2012
there was a similar, albeit less dramatic,
challenge in muni bonds. Low-quality munis rallied
dramatically in
2009
and kept on rallying through
2012
. As a result, many of our highest-rated muni
funds were looking pretty lousy on a three- and
five-year basis. We stayed with the likes of Fidelity
and Vanguard, and, in
2013
, the market had a
modest correction that made both firms look a lot
better in the performance rankings.
In U.S. equities, cautious funds have generally lagged.
Holding cash or bonds tones down volatility, but it
holds a fund back in rallies like
2013
. Funds favoring
high-quality stocks likewise have been looking
sluggish as those names tend to outperform in down
markets or flagging economies. A handful of equity
funds also hold some gold as a hedge against troubled
times, but that has been a rather costly hedge in
recent years.
Not everything divides neatly into cautious and
aggressive, though. Health care had a great run, but
it’s somewhat defensive except for biotechnology.
In addition, materials and mining stocks are rather
high-risk and they’ve done poorly. In any case, it’s
helpful to factor in all those market biases to figure
out whether a fund is still a keeper.
On Page
3
we have drawn a picture to illustrate my
point. We took the equity funds in the Morningstar
500
and gave them each a dot to represent their
What Does the Box Say?
Fund Reports
5
Laudus US Large Cap Growth
Vanguard Health Care
Yacktman Focused
Morningstar Research
8
Emerging Markets Working
Against Foreign Funds
The Contrarian
10
5 Great Funds for Your IRA
Red Flags
11
Green Managers at the Helm
Market Overview
12
Leaders & Laggards
13
Manager Changes and News
14
Portfolio Matters
16
6 IRA Mistakes to Avoid
Tracking Morningstar
18
Analyst Ratings
Income Strategist
20
FundInvestor 500
22
FundInvestor 500 Spotlight
23
Follow Russ on Twitter
@RussKinnel
RusselKinnel,
Director of FundResearch and Editor
FundInvestor
April 2014
Vol. 22 No. 8
Research and recommendatio s for the s riou fund investo
SM
Continued on Page 2
