(PUB) Investing 2016

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11 Morningstar FundInvestor April 2016
Trailing returns serve as a useful tool to compare a
fund’s performance with its benchmark or peer group.
However, the measure often disguises how volatile
a fund has been during a longer time frame. That’s
especially true when a fund has recently turned in
very strong or poor performance, which can bias its
trailing returns.
On March 9, 2016 , the U.S. equity bull market cele-
brated its seven-year anniversary. Many funds
that struggled during the credit crisis have excelled
during the rally and now boast excellent trailing
returns relative to Morningstar Category peers.
Investors should keep in mind that these funds’
trailing returns don’t tell the whole story.
We’ve gathered funds from the Morningstar 500
that had bottom-quintile showings during the credit
crisis yet boast top-quartile returns over the
trailing three-, five-, and 10-year periods through
March 2016 . All of the funds receive Morningstar
Risk ratings of High or Above Average.
Morgan Stanley Institutional Growth MSEGX sports
an impressive record, though investors have endured
a few stomach-churning periods of performance
during the last decade. Most notably, the fund lost
45.7% annualized and placed in its category’s
worst decile during the downturn from October 2007
through March 2009. Given lead manager Dennis
Lynch’s relatively concentrated, low-turnover, and
sector-agnostic approach, investors should expect
high volatility. Still, the fund remains an excellent
pick for those willing to ride out the short-term
bumps. The team won Morningstar’s Domestic-Stock
Fund Manager of the Year award in 2013 , and the
fund receives a Morningstar Analyst Rating of Gold.
Investors in AMG Managers Skyline Special Equi-
ties SKSEX have also withstood heightened volatility.
The fund lost more than half its value during the
financial crisis, and it fell more than most small-blend
peers in 2015, with a 6.1% loss during the year.
Nonetheless, thanks largely to outstanding results as
the markets soared in 2009 and 2013, the fund’s
trailing returns show no period of weakness relative
to category peers. Morningstar manager research
analysts assign the fund a Bronze rating, indicating
their belief that it will outpace the majority of
competitors over a full market cycle, though investors
should prepare for lumpy returns.
The team running Western Asset Core Bond WATFX
and Western Asset Core Plus Bond WACPX , which
both have delivered strong long-term gains and
receive Silver ratings, tends to take more credit risk
than most rivals. As a result, both funds typically
amplify the intermediate-term bond category’s move-
ments. Both strategies lost roughly 10% as investors
shunned credit risk in 2008, while the typical peer
retreated 4.7%. During the next two years, the funds
led more than 90% of peers with double-digit gains
as lower-quality bonds rebounded. The team has
recently improved its risk-management procedures,
which seems to have helped; both funds turned in
peer-beating results during 2011’s turbulent market.
Still, given their higher credit orientation, these strat-
egies aren’t for the faint of heart.
Fidelity Capital & Income FAGIX is one of the most
aggressive options in the high-yield bond category.
Lead manager Mark Notkin often builds sizable allo-
cations to junk-rated bonds, and he’ll even shift
assets into equities when high-yield valuations look
frothy. Generally aggressive positioning through-
out the stock market rally has boosted results and
led to excellent trailing returns. However, the past 10
years have been a rocky ride. Even with Notkin’s
move to raise cash ahead of the credit crisis, the fund
lost 32% in 2008; it also lost a near category-worst
11% in the rocky third quarter of 2011. With about
20% of assets in equities as of 2015’s end, the fund
is vulnerable to a sell-off in the stock markets. That
said, for investors with a high risk tolerance, it
remains an appealing long-term choice, as indicated
by its Analyst Rating of Silver. K
Contact Leo Acheson at
Anything but a Smooth Ride
Red Flags | Leo Acheson
What is Red Flags?
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
in Red Flags 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.