"Until you know what direction to head, it's a little bit risky moving anywhere," says Philip Edwards, managing director of mutual-fund research for Standard & Poor's, in counseling patience for mutual-fund investors. The present situation with the developing scandals over trading is "a little bit like being in the middle of a minefield without a map," he comments.
However, Edwards advises investors not to paint all mutual funds with the same brush, and he suggests questions to ask in selecting a fund, about such things as quality of sponsorship, management, and performance. Among the funds S&P likes, he reports, are the Growth Fund of America (AGTHX ) in large-cap growth funds and the Dodge & Cox Stock Fund (DODGX ) in large-cap value. S&P also recommends the American Century Small Company Fund (ASQIX ).
If an investor is thinking about switching out of a mutual fund, Edwards cautions that care should be taken in picking a fund to switch into. In some cases, he notes, more information may be needed before making a change.
These were among the points Edwards made in an investing chat presented Nov. 18 by BusinessWeek Online and Standard & Poor's on America Online, in response to questions from the audience and from BW Online's Jack Dierdorff. Edited excerpts follow. A complete transcript is available from BusinessWeek Online on AOL at keyword: BW Talk.
Q: Before we delve into the world of mutual funds, how does the market look to you, Phil, after four days of declines?
A:It looks like people have some concerns, ranging from something as major as terrorist threats to something as broad as the economy. However, S&P believes that the economy is poised for growth, and we expect the market to continue to climb through 2004.
Q: How have the recent headlines over mutual funds and trading scandals affected fund investing?
A:I think investors have lost confidence, and rightfully so. Some of the revelations have been quite startling and need to be addressed by the industry. However, we can't paint the entire industry with the same brush. In a nutshell, people need to be careful where they invest.
Q: You said because of the scandals people should invest carefully -- can you give us any guidelines?
A:Yes. There are five questions that investors should ask. First, how credible is the fund sponsor? Second, who's managing the fund, and how long have they been doing it? Third, what's the style of the fund, and are you comfortable with it? Fourth, what's the fund's expense ratio, and is it competitive? And fifth, has this fund exhibited consistently strong performance?
Q: What guidance are you at S&P giving investors in this confusing situation?
A:Boy, that's a great question. We're generally counseling patience. It's a little bit like being in the middle of a minefield without a map. Until you know what direction to head, it's a little bit risky moving anywhere.
However, I understand that there's a lot of emotion to investing, and if people feel they must move, they should do their homework before doing so. Don't just move on headlines or snippets of information.
Q: As we discuss these troubles, are you seeing net redemptions out of any of the funds involved? Or from funds generally?
A:In general, money is flowing into stock funds at a rate of about $15 billion to $20 billion a month. However, some of the fund groups, such as Putnam, Strong, and Janus, are experiencing redemptions. However, I don't think you could yet claim it to be a run on the bank.
Q: You gave us some questions prospective investors should ask -- what funds does S&P recommend now in answer to such questions?
A:Well, the Growth Fund of America (AGTHX ) is a very good large-cap growth fund. The Dodge & Cox (DODGX ) is an equally strong large-cap value fund. In small caps, American Century has a strong offering in its Small Company Fund (ASQIX ). We're very confident in each of these funds.
Q: How do you feel about the Vanguard group of funds?
A:I feel very good about them. They have probably the best index funds, and they also have a strong lineup of actively managed funds. They are one of the lowest-cost fund groups in the nation.
Q: How do you feel about the Eaton Vance Income Fund of Boston (ECIBX )?
A:The performance of this fund has generally been strong, typically ranking in the top half of its peer group of fixed-income funds. The expenses are very reasonable, and the management team seems very seasoned. It seems like a good choice if you're looking for this type of income fund.
Q: If you wanted to tiptoe into bond funds for the first time, where should a senior-age person begin?
A:At this point in the market, I would be looking for a relatively short-term bond fund, because interest rates are more likely to rise than to fall, and as interest rates rise, the principal value of the bonds falls. You want to be in shorter-maturity bonds to limit your exposure to the loss of principal. PIMCO has a good low-duration bond fund.
Q: I have about $80,000 in Putnam New Opportunities (PNOPX ) -- should I stay or go? That question could be applied to the whole Putnam family in view of the trading scandals and the suits against it.
A:It's difficult to know when to leave a fund, especially when there's such turmoil in the market. You don't know if the fund you're going to jump to is going to be the next one subject to some scrutiny.
However, this fund has had an especially bad track record since the new management team took over in 2000. Given this, with the current circumstances, it may be a good idea to look for a different mid-cap growth fund.
Q: Are Mairs & Power Growth Fund (MPGFX ) and Dodge & Cox Stock Fund (DODGX ) good buys?
A:I really, really like the Dodge & Cox fund. This is managed by a very experienced team, and has been very successful for extended periods. The Mairs & Power Growth Fund has also had an excellent track record, but it tends to focus on companies established in the Midwest. As a result, it's not as diverse as some of its peers.
Q: Any thoughts on the American Funds group? Seems their 5- and 10-year returns are very good.
A:I think the American Funds are also one of the premier fund groups in the U.S. They have a very strong lineup of products that all seem to do consistently well. It's tough to go wrong with them.
Q: I own shares in Alliance Bernstein Growth & Income fund (CABDX ). They, too, are in trouble. Should I sell?
A:At this point, I would be patient and hold on. We think this is a very good fund, and it's worth waiting to see if there's more information before making any decisions on this one.
Q: Thoughts on IMS Capital Value (IMCSX )? Out of Portland, Ore.
A:This fund has had an amazingly strong track record, but it has been developed on a fairly small asset base. As a result, the manager's stock-picking abilities have not really been tested yet. Plus, this fund appears to invest in a a broad cross-section of large-, mid-, and small-cap stocks and, as a result, would be difficult to use in an asset allocation. Also, its expense ratio is fairly high, and the minimum investment is $10,000.
Q: Would you recommend any REIT funds, like the Vanguard REIT fund (VGSIX )?
A:REIT funds are good to round out a portfolio, but not necessarily to be a core position. Cohen & Steers specializes in real estate funds and has established a good reputation in this area. The Vanguard REIT fund is an index that tracks the broad real estate market and is an attractive alternative to a more actively managed real estate fund.
Q: Your take on tax-free bond funds?
A:If you're trying to minimize your tax returns, tax-free bond funds are a good alternative. Franklin offers a wide variety of them. They can be as narrow as a single state fund or as broad as a national fund.
Q: My wife would like to know your feelings on FPA Capital Fund (FPPTX ).
A:This fund has had a stellar long-term track record and has been run by the same manager for almost 20 years. The asset base is very reasonable, and the expenses are low. If you're looking for a small-cap fund, this is a good alternative.
Q: Thoughts on Firsthand funds? Thanks.
A:Well, as with a lot of technology funds, the Firsthand group has experienced a large loss of assets. However, they have a very broad definition of technology for some of their funds. For example, in the Technology Leaders Fund (TLFQX ), they look to invest in companies that are utilizing technology, rather than just technology companies. In its top 10 holdings you have eBay (EBAY ) and Time Warner (TWX ). The lesson here is to check out the mandate of the Firsthand funds very carefully before investing.
Q: Finally, Phil, are mutual funds still a sound investment for the average person, amid all these headlines?
A:Absolutely. I think mutual funds have provided a very effective and efficient way for a large part of the public to invest and help meet their financial goals. I think they will continue to be a very productive resource. The long-term results of these scandals may actually be a better product for investors.
Edited by Jack Dierdorff