| Highlights and Commentary |
| By Roy Weitz |
Do you own a "weak" NO-ALARM fund? There are 1,074 NO-ALARM funds in this month's database, and together these NO-ALARM funds make up the FundAlarm Honor Roll.....By definition, every NO-ALARM fund has outperformed its respective benchmark for the past 12 months, three years, and five years, and most people are quite happy to own a NO-ALARM fund.....So, how is it possible for an otherwise commendable NO-ALARM fund to be "weak"?.....To understand what we mean by a weak NO-ALARM, take a look at part of this month's data table for American Funds Investment Company of America (AIVSX), one of the 800-pound gorillas of the fund world: 
When you buy a balanced mutual fund, chances are you expect the fund to provide what the name implies: A portfolio that's reasonably balanced between risk and return (i.e., stocks and fixed income), as well as a reasonable expense ratio.....If you own Phoenix-Engemann Balanced Return (PABRX) , these expectations probably haven't been met.....PABRX is an odd little fund: The fixed income portion (about 30% of the total portfolio) is invested in U.S. government bonds, while well over one-third of the stock portion is concentrated in just two relatively volatile sectors (information technology and health care).....One commentator has likened the PABRX portfolio to a barbell, which is accurate, and probably isn't what you want from a core holding (the government bond position is too far out on the conservative end, the concentrated stock portfolio is too far out on the aggressive end).....The fund's expense ratio, at 1.48%, also is too high......If you figure that the stock portion should be managed for no more than 125 basis points (1.25%), and the government bond portion for no more than 50 basis points (0.50%), the expense ratio for this fund should come in at about 1.00% or less*.....Oh, and did we mention that the fund's performance sucks?.....Phoenix-Engemann Balanced Return isn't the worst traditional balanced fund on this month's list of Most Alarming 3-ALARM funds, but it's tied for second place, just behind SunAmerica Balanced Assets. A new mutual fund, designed to beat back activist nuns:
How the pros do it: Back in 2001, Florida's state pension fund lost almost $300 million on Enron stock.....Now, the Florida pension board is suing Alliance Capital, and onetime-star money manager Alfred Harrison, alleging (among other things) that gross negligence by Harrison and Alliance caused those losses.....Here's an approximate timeline that shows (1) events at Enron, (2) advice from Alliance's in-house Enron analyst, and (3) Harrison's (seemingly incomprehensible) investment moves:
| Date | Event |
|---|---|
| July 23 | An Alliance analyst cites rumors that two Enron execs are about to leave, and she advises Alliance money managers "don't buy" Enron stock |
| August 14 | Enron CEO Jeffrey Skilling resigns for "personal reasons" |
| August 15 | The same Alliance analyst downgrades Enron; she says that "something fishy is going on" and "is about to blow up"; Enron stock is removed from Alliance's list of favored stocks |
| August 15 | Harrison buys Enron stock at $36 per share, and continues to buy as stock slides toward $25 per share |
| October 22 | Enron announces huge losses from side partnerships, and the SEC opens an investigation |
| Shortly after October 22 | Harrison buys Enron stock at $22 per share |
| October 24 | Enron CFO Andrew Fastow is fired |
| Shortly after October 24 | Harrison buys Enron stock at $16 to $12 per share |
| October 31 | The Alliance analyst calls Enron management "disgusting" |
| November 9 | Dynegy makes plans to purchase Enron |
| Shortly after November 9 | Harrison buys Enron stock at prices of less than $10 per share |
| November 28 | The Dynegy deal falls through |
| November 30 | Harrison sells all of his Enron stock, for 28 cents per share |
Fund directors fail to do their job -- again -- and this time it affects one of Roy's funds: My biggest personal fund holding is PIMCO RCM Global Technology (recently renamed Allianz RCM Global Technology), and the trustees (directors) of my fund have called a special shareholders meeting for later this month.....The official purpose of the meeting is to approve the elimination of one of the fund's fundamental investment restrictions, which always puts me on alert.....But a quick read between the lines of the proxy materials reveals that more is at stake than just some legalese in a prospectus: PIMCO is also proposing that Global Technology merge with PIMCO (now Allianz) RCM Innovation....If shareholders of my fund reject the change in the fundamental investment restriction, the merger won't go through, and PIMCO will either have to come up with another plan, or simply liquidate the dismal Innovation fund.
 | Last May, Turner Core Growth was spun out of the Turner fund family, and became part of the Constellation funds.....But it turns out that the Constellation fund family didn't need the fund, because it overlapped with other Constellation offerings.....So, on February 28, the fund was spun again, and now it's back with the Turner family, dealing with issues of rejection and abandonment. | |
| "Turner fund turned out once again," David Hoffman, InvestmentNews, March 14, 2005 | ||
We get e-mail: Lots of e-mail, some quite complimentary, some not, and some that raises interesting issues.....We treat our e-mail as confidential if we're asked to, or if specific individuals and situations can be identified.....But we also get quite a bit of e-mail that can be shared without compromising anyone's privacy.....Herewith, several verbatim e-mails recently received by FundAlarm, along with Roy's replies.....We've edited the incoming e-mails only to delete the signature line, and to clean up the punctuation and some misspellings (material in brackets has been added by FundAlarm, where clarification is necessary):
| "Am surprised to see the dwindling list of American Funds on your Honor Roll list. Have you changed your criteria or has some other decision affected the change? For instance, this month [February 2005] American Mutual Balanced Fund and ICA [Investment Company of America] and Washington Mutual are not on the list?...Last month Capital World G&I [Growth & Income] fell off but is back again. What is it that is making the list more volatile than it has historically been? I have considered this a valuable resource to complement others but am now going to have to be a little more cautious with your information?..I can see why a "regular 3 alarm fund list" might have some volatility but it seems to be that a fund that is an "Honor Roll" fund should have some stability as should the "Most alarming" list...Please don't bend your skills to become a useless fund trading site...Thank you." |
| "Thanks for your message. The criteria for the Honor Roll haven't changed since the inception of FundAlarm, almost nine years ago: to be on the Honor Roll, a fund must have outperformed its benchmark for the past 12 months, 3 years and 5 years. What you are seeing with the American funds is purely a function of the funds' performance (specifically their 12 month performance), and not anything to do with FundAlarm's criteria.
Funds go on and off the Honor Roll all the time. I haven't specifically analyzed the reason for the American funds starting to drop off, but my guess would be that it is an early indication of a shift in the market away from their value/blend style, in favor of a more growth-oriented style, especially in the large-cap arena. This doesn't necessary make the funds any "worse" than they were 12 months ago, but it could be the beginning of a style shift that could last quite a while. You are observant to notice the change. Please don't blame the messenger." |
| "You seem to be very down on manager changes at Fidelity. Perhaps you might be aware (for good or for bad), Fidelity's career model is to rotate its analysts and portfolio managers [PMs] between difference funds every 18 months. Their philosophy is such that it wants to develop all of its PMs and analysts into generalists who can manage money in any sector and eventually develop a broad
set of portfolio manager skills.
Given Fidelity's overall record of success as a fund complex it can't be that bad, right?" |
| "I'm aware of the practice you describe, which applies to Fidelity's
Select funds. Fidelity is certainly entitled to do this. My objection
is that they continue to charge a premium management fee for the Select
funds. If these are trainee managers -- in effect, going to school on
the shareholders' dime -- shouldn't the fee be as low as possible?
Maybe *Fido* should pay investors, since the investors are effectively
subsidizing an employee training program.
I disagree entirely with your premise that "success" -- i.e., large size -- equates to quality. For one thing, Fidelity was around for probably 30 years without much competition, and in this business that provides a huge advantage. Fidelity certainly isn't the worst shop out there, but it's far from the best deal for investors." |
| "Our site is your handly, harmless and individual realtime upper reaches for drug and food administration adopted chemist's admonitions. Our company propose label and true public equivalents of United States fda accepted direction pellets up to our fully licensed foreign medicine. Upon approval of yours officinal news, a recognized general practitioner will distribute a vacant arrangement which may be filled and send to you in one work day. |
| "Now that you mention it, I'm getting more and more of those "vacant arrangements" every day. Do you have any direction pellets that might help me?" |
The chart below shows one very bad day for Fidelity Select Biotechnology (FBIOX) .....Can you spot the day?
 | (Here's a hint: | 
|
When a fund manager wants to sell in the worst way, that's often exactly what he does: Michael Hershey, manager of the Henlopen fund, recently sold his fund (technically, his management contract) to the Hennessy funds.....Hershey says that Henlopen shareholders will be well taken care of, because Henlopen and Hennessy have a "comparable investment style".....We were dubious about this, so we looked up the description of each manager's investment style on its respective Web site:
| From the Hennessy Web site | From the Henlopen Web site | |
|---|---|---|
| "...we manage our Funds with the discipline and consistency of an index fund, and we never stray from the formulas. Emotions, hunches and fads play no part in our investment decisions. In short, we don’t try to outsmart or time the market because we believe that doesn’t work; and we believe that this practice is the reason that 70% of actively-managed mutual funds fail to outperform comparable passive indexes." | "[Our] stock selection process focuses on identifying companies which appear to have an "extra edge" in growth potential as a result of a special "catalyst"...[Our] "bottom-up" process begins with the generation of ideas from a wide variety of sources...Companies meeting these preliminary tests are then subjected to intensive research and analysis...Our research includes interviewing management and talking with well-informed industry, trade, and analytical contacts." |
We ran the following item in the December, 2002 Highlights & Commentary:
How many shareholders are aware that funds must disclose all 5% owners?.....Very few, we suspect, but that's OK, since few of us are affected by this rule.....But if you're a fat-cat fund investor, and especially a fat-cat investor in a relatively small fund, this disclosure requirement could result in a major breach of your privacy.....For example, consider the following excerpt from one fund's recent Statement of Additional Information (SAI):
This disclosure not only tells us that Dr. John Bingham Ellison owns about $5.4 million worth of this fund (at a current NAV of about $17), we also learn where this relatively wealthy man lives (we've blacked out the address, but it's definitely his home).....If you're fortunate enough to own 5% of any mutual fund, and you want to avoid this kind of publicity, you might want to make sure that your address of record is a post office box, or at least your office.....If possible, you might also want to hold your account in a trust that doesn't identify you by name (for example, the RW Family Trust). |
The Wall Street Journal recently picked up on the issue (above), but with a slightly different twist: The Journal pointed out that account numbers are often included with these 5% disclosures, which makes life much too easy for identity thieves (indeed, there seems to be an account number in the disclosure above).....The Journal also pointed that heavy-hitters aren't the only ones affected by this disclosure.....With the recent proliferation of asset classes, it doesn't take much to own at least 5% of a relatively new fund class (in one case cited by the Journal, a mere $10,000 investment in an "H" share of an Armada fund constituted a 7% ownership position, enough to trigger disclosure, with account number and all).....According to the SEC, account numbers are not required as part of the 5% disclosure.....Fund companies are vowing to be more careful about their disclosures in the future.*
Fidelity has announced that it's creating a money management division strictly for its institutional accounts (i.e., 401(k) plans, trusts, corporate pension plans, etc.).....This division will be a separate legal entity, with its own employees, and it will chart a direction different from the Fidelity arm that manages mutual funds.....Fidelity already is a huge money-management firm and, as it gets even larger, capacity issues become a serious concern: At some point the firm could have too much money to manage effectively, and all Fidelity accounts could start looking -- and performing -- like expensive index funds (or worse).....Managers in Fidelity's new institutional division will work independently of the mutual fund managers and, presumably, the two groups of managers will end up with significantly different portfolios.....Capacity also appears to be a growing concern on the mutual fund side.....For the first time that anyone can remember, Fidelity has split the assets of an entire fund (Fidelity Mid Cap Stock) between two managers (Shep Perkins and Steven Calhoun), and each manager will run his portion of this $8.7 billion fund independently*.....If this looks like a small-scale version of the American funds' counselor system, it should (perhaps not coincidentally, American also has separate mutual fund and institutional divisions).....The counselor system has helped American avoid capacity problems at its funds for many years, and American's huge funds have continued to generate excellent performance.....Now, it appears that capacity concerns have caused Fidelity -- traditionally the home of individual, star managers -- to start down the same path as American.
Briefly noted:
 "Simon Davis Face of balanced investing 2005" |  "Ed Haldeman, CEO Face of responsible investing 2005" |  "Jeanne Mockard Face of long-term performance 2005" |
