If One Manager Is Good, Are Four Better?Robert Barker
Last spring, James Kraska was clicking through Morningstar's Web site when he became intrigued by a review of the Masters' Select Equity Fund. After drilling down for more information, he learned that Masters' Select divvies up its cash among six managers, including superstars such as large-cap stock-picker Shelby Davis and mid-cap growth specialist Foster Friess. Quickly, the 32-year-old U.S. Navy lieutenant stationed in Alameda, Calif., invested $5,000 and has been adding $300 a month since. "It's a shortcut," he says. "You look at all the Morningstar categories, and you go: `Jeez!' If you picked one of each, pretty soon you'd have more funds than you know what to do with."
Has Kraska hit on the perfect way to slice through the ever-proliferating clutter of mutual funds? It's a timely question, as multimanager funds spread. Masters' Select has launched an international fund and is considering others, while financial-services giant SunAmerica has doubled, to eight, the number of funds in its multimanager Style Select series. The approach, which long ago became common among pension funds, "is trickling down to the retail level," notes Randy Lert, chief investment officer at Frank Russell Co., which runs multimanager funds with $6 billion in assets from individuals.
Yet while multimanager funds seem promising, many are expensive, and some have yet to show a decided performance advantage (table). Also important is separating true multimanager funds--in which the managers are wholly independent--from the legions of team-managed funds, which are directed by consensus among managers who work for the same company. No advantage there "if they're all reading the same research," says Vanguard Group's portfolio review chief, Jeff Molitor. "It's the independence of thought" that counts.
That said, is one of these funds right for you? Perhaps, if you enjoy the simplicity of one-stop shopping. If, in diversifying your portfolio, you've wound up with a half-dozen or more funds, you know how it feels to see your mailbox stuffed with statements and reports. Investors "don't have enough time to keep up with all of this," says J. Steven Neamtz, executive vice-president at SunAmerica Asset Management. Unless you keep close tabs on what your funds' managers are up to, you may not really be diversified.
A multimanager fund may give smaller investors access to talent otherwise available only to big money. Jim Carstensen, a New Jersey systems administrator, recalls being attracted last year to Friess's Brandywine Fund but was put off by its $25,000 minimum. "That was a jump I didn't want to make initially," he says. So he chose Masters' Select, where Friess runs 10% of the money.
Bruce Bee, a global small-cap growth-stock ace in Denver, insists on a minimum of $10 million. "Short of John Elway walking in here, we're not going to see too many individual investors," he notes. But the new Masters' Select International Fund has Bee in charge of 10%, the balance split among four others. Minimum: $5,000.
Perhaps the best argument for the approach is that multiple managers and styles should result in less volatility--"a smoother ride," says Managers Funds President Robert Watson. That, in turn, may help investors hedge their anxious natures, ensuring they don't try to time markets and wind up committing that cardinal sin, selling low and buying high.
FEE TRAP. If all this sounds right for you, heed a few warnings. For starters, that "smoother ride" often costs extra--sometimes a lot extra. SunAmerica's Style Select series is weighed down with sales charges. Its 5.75% front-end load immediately cuts an initial $10,000 investment to $9,425. The expense ratios of 1.78% are well above average, too.
While others come without loads, many are available only through brokers or advisers who make their money by charging a wrap fee, often 1% or more annually for running your account. And not all the funds have a low cost of entry. Russell, for example, offers 10 multimanager funds through independent advisers and the brokers at A.G. Edwards, where the minimum is $50,000. Your total tab for the services might run as high as 2.25% of assets each year.
Worse, by looking at past returns, it's hard to see that these funds, as a class, have a clear edge in performance. In most cases, they're better than the average comparable fund. Yet they often underperform the index benchmarks they're designed to beat.
Say, for instance, you had put your money into the Domestic Equity Portfolio of SEI Investments, a $30 billion pension-fund consultant and fund sponsor. This is a blend of four large-stock and small-stock, growth, and value funds. Over the five years ended Dec. 31, your annual average total return would have come to 18.2%--minus whatever wrap fee you paid your adviser. Alternatively, you might simply have purchased Vanguard's Total Stock Market index fund and seen 18.9% a year, paying no extra fees. Would an index fund have been more volatile? Probably, but most multimanager funds haven't been around long enough yet to make a fair judgment on the question.
So what's the trick? Pick carefully. Happily, choices are growing. Trusted brokers can doubtless help you find your way into a multimanager fund, such as the Russell and SEI offerings, which are available only through intermediaries. Just try to negotiate as low a fee as possible. The bigger your balance, the more negotiating leverage you'll enjoy.
RESULTS MATTER. If you're a do-it-yourselfer, you should not necessarily make a beeline for the low-cost provider. Vanguard's Explorer small-cap stock fund is certainly inexpensive, but it has a long, dreary record of underperformance, a fact that resulted last year in the addition of new managers.
Managers Special Equity, a $686 million no-load fund with average expenses, blends the talents of four stock-pickers. Over the past decade, it has returned an annual average of 19.5% and consistently beaten its benchmark, the Wilshire Small Growth Index. Its money is divided among "momentum" growth-stock picker Gary Pilgrim, value mid-cap stock specialist Tim Ebright, small-cap value investor Andrew Knuth, and micro-cap growth advocate Robert Kern.
The Masters' Select series is interesting because of its dedication to "concentrated" investing--that is, to focusing on each manager's best ideas. Ken Gregory, an Orinda (Calif.) investment adviser whose firm, L/G Research, sponsors the funds, observes that, for their personal accounts, "fund managers don't buy 60 or 70 stocks. They're probably buying 10 or 20," putting their own money only on their best ideas. So in his funds, Gregory limits the managers to a maximum of 15 stocks, forcing them to concentrate on the best picks.
Last year, the domestic stock fund returned 29.1%--impressive, but hardly a superstar performance, considering that the broad market did even better. Gregory says he's willing to give his brainstorm three years to pan out, but he's confident enough that he has placed $75 million of his clients' money into the $285 million fund. Other investors don't seem antsy, either. "It's too new to have holdings that have matured for all of the managers," says Carstensen. A little more experience, and he'll know whether the different managers' styles meld into one ideal blend.