Highlights and Commentary

By Roy Weitz

(Originally posted April 1, 1999) [Archive Table of Contents]

The incredible shrinking funds: A mutual fund's asset base can shrink for two reasons: Investors pull money out, or the fund's holdings decline in market value .....In many cases, these two forces are at work simultaneously.....The accompanying page highlights the 270 funds in this month's FundAlarm database which have lost at least 25% of their assets over the past 12 months.....Most investors sense that a shrinking asset base is not a good thing.....Sure enough, 90% of our shrinking funds are performing worse than they were 12 months ago.....Does a declining asset base inevitably lead to poor performance?.....No.....But a declining asset base can be an important contributor to underperformance, and it's a factor that many investors continue to overlook.


Warburg Pincus floats a lead balloon: According to a company spokesperson, Warburg Pincus is "looking at the possibility of offering an array of funds to invest in just technology, financial services, and other industries".....The idea for introducing these sector funds comes from Brian Posner, who says that it's "a great way for analysts to learn how to manage money".....One has to admire Posner's candor, and we hope that he has the clout and courage to take his idea all the way.....For example, it seems unreasonable to ask investors to pay for a company's internal training program, so we suggest that Warburg charge no management fees.....Since many of these sector fund rookies will have chosen to manage money instead of going to graduate school, it also seems fair that managers be required to pay their funds each year the equivalent of M.B.A. tuition.....This money can then be used to defray fund expenses, such as pizza parties, beer busts, and "Team Brian" T-shirts.....No training program is ever complete without a system for evaluation, so Posner might want to consider an "Investor Report Card"......Managers with grade point averages above, say, 3.5 would be eligible for promotion to real funds.....Managers with at least a "D" average would be allowed to stay with their sector funds, and managers below "D" would be required to take remedial courses, attend summer school, or go to work for the Merrill Lynch fund family.


Engineers are lining up to invest, even as you read this:

"The moods of the stock markets, booms and falls can be equated with ebb and flood. Value investing functions like a turbine-driven power plant, which generates valuable energy from both phenomena."--From the American Diversified Web site

Lou-sy fund managers: There are 25 regular panelists on the Wall Street Week television show, and we still can't figure out how Louis Rukeyser selects them.....But one thing we do know: If you manage a mutual fund, you don't have to be a superstar.....Seven of Lou's regulars manage or co-manage mutual funds, and their records aren't good.....Elizabeth Dater has the most funds to her name (see table below), and almost all of Dater's funds have underperformed their respective benchmarks.....Frank Cappiello has posted some eye-popping negative numbers for both his small-cap and large-cap fund.....Brian Rogers manages two large-cap funds for T. Rowe Price, and one of them is a solid 3-ALARM (Equity-Income).....The other Rogers fund, T. Rowe Price Value, hasn't been around long enough to be 3-ALARM, but it's heading straight in that direction.....Is Rukeyser getting better at picking good managers?.....One of his newest panelists, Barbara Marcin, has been in charge of Citifunds Growth and Income for exactly a year.....Her 12-month return was -0.96, compared to 19.79 for the large-cap benchmark.

Wall Street Week Panelist	Fund(s) Managed	12 Mo. Return vs. Bench	3 Yr. Return vs. Bench	Benchmark
Frank Cappiello	Cappiello-Rushmore Emerging Growth	1.89	-11.56	Vang Sm Cap Idx
	Cappiello-Rushmore Growth	-21.06	-17.1	Vang 500 Idx
	Cappiello-Rushmore Utility Income	3.12	-1.71	Specialty
Elizabeth Dater	Warburg Pincus Adv. Emerging Growth	-11.68	-9.5	Dreyf MidCap Idx
	Warburg Pincus Adv. Post-Venture	-5.48	-10.96	Dreyf MidCap Idx
	Warburg Pincus Emerg Growth Common	-11.28	-9.04	Dreyf MidCap Idx
	Warburg Pincus Inst. Small Growth	-0.8	1.79	Vang Sm Cap Idx
	Warburg Pincus Post-Venture	-5.13	-10.55	Dreyf MidCap Idx
Louis Holland	Holland Balanced	-0.98	-2.8	Vang Bal Idx
John Kim	Aetna Balanced (A,C,I)	-2.12*	-1.34*	Vang Bal Idx
Barbara Marcin	Citifunds Growth & Income	-20.75	NA	Vang 500 Idx
Brian Rogers	T. Rowe Price Equity-Income	-18.3	-10.18	Vang 500 Idx
	T. Rowe Price Value	-20.16	-8.23	Vang 500 Idx
Maceo Sloan	Dreyfus Third Century	4.17	-0.81	Vang 500 Idx

* Data is for the "A" class fund

We didn't forget Marty Zweig.....Although his name appears on several funds, he doesn't manage any of them.


Income? We don't need no stinking income. This month's FundAlarm database contains 176 large-, mid- and small-cap funds which have the word "income" in their name (mostly "Growth and Income" or "Equity-Income").....Owners of these funds might reasonably expect them to, well, pay income.....In fact, 12 of these funds have a yield of exactly 0%, and 19 of them pay less than .20% (that's $20 of dividends per $10,000 of market value).....Why does income matter?.....For one thing, it's nice to buy something that actually delivers what its name promises.....Also, as Manuel Schiffres notes in the April issue of Kiplinger's, some investors buy growth-and-income funds because they hope dividends will provide a cushion during market downturns.....Many of these investors may be surprised to learn that their "income" fund not only earns negligible income, but that it also has a heavy weighting in high-tech and health-care stocks.....Investors should note that equity-income funds generally have higher yields than growth-and-income funds.....The lowest-yielding equity-income funds in our database are Fidelity and Berger, at .21%, while several equity-income funds yield in the range of 1.5% or higher.

"Income" funds with 0% yield

Chase Vista Growth & Inc B (VINBX)

Colonial U.S. Growth & Inc A (CFGAX)

Colonial U.S. Growth & Inc B (CFGBX)

Diversified Inv Growth & Inc (DVGIX)

Marsico Growth & Income (MGRIX)

MFS Research Growth & Inc B (MRGBX)

Nations Marsico Grth & Inc Inv B (NGIBX)

Nations Marsico Grth & Inc Prim A (NGIPX)

North American Growth & IncB (NARBX)

Phoenix-Oakhurst Growth & Inc B (PBGIX)

Quantitative Growth & Inc Ord (USBOX)

SunAmerica Growth & Income B (SEIBX)

[For yields on the rest of the "income" funds in our
database, see the accompanying page]

Battle of the 22-year old mutual fund analysts: In early March, Standard & Poor's announced a new mutual fund rating service, which is designed to knock Morningstar off its pedestal.....S&P intends to slice the fund universe by category (large-cap growth, small-cap growth, etc.), and assign its "select" rating to fewer than 10% of the funds in each group.....Morningstar continues to insist that its 5-star rating is not a "buy" signal, but S&P has no such qualms about its "select" rating.....S&P hopes to set itself apart from Morningstar with better subjective analysis, especially more in-depth fund manager interviews.....In other words, S&P's employees just out of college will attempt to pry the truth from wily fund managers, who probably wouldn't give the straight scoop to their own mothers.....("Honest, Mom, I'm starting to see signs of a turnaround.")


Stop it! Please! I can't stand the insight!

"[The] portfolio managers and analysts work diligently to produce strong investment ideas and candidates for inclusion in the portfolio."

--From the Standard & Poor's "Select Fund" report on Janus Twenty.

Stop it! Please! I have no idea what you're talking about!

"Although the risk of the portfolio is high, the manager does not use volatility as a means of increasing returns."

--From the same Standard & Poor's "Select Fund" report on Janus Twenty.

Million dollar misfits: Mutual fund managers are often lured from one fund to another by professional recruiters, so recruiters are in a unique position to know how much fund managers earn.....(This is to be contrasted with fund investors, who have absolutely no idea what their managers earn, and couldn't find out even if they wanted to).....According to one top industry recruiter, money managers "with at least five years experience who oversee funds with at least $500 million of assets usually receive total annual compensation of more than $1 million and, in many instances, several times that."

This month's FundAlarm database contains 325 funds with at least $500 million in assets and manager tenure of at least five years.....Of these 325 funds, which are arguably run by Million Dollar Managers, 56% are 3-ALARM.....This is a pretty grim statistic.....But before we name names, let's give these high-earners a break: We'll toss out all the value managers, since the market has been beating them up.....We'll also toss out all the Specialty fund managers, since they could be stuck in an underperforming sector through no fault of their own.....As long as we're being kind, we'll toss out all the index funds, funds of funds, and funds managed by more than one person.....We're on a roll, so let's also toss out funds that have at least outperformed their peer group over the past three years, and funds that are on the borderline between benchmarks (small/mid cap, mid/large cap).....Sound the trumpets, we're done.....Herewith, FundAlarm's list of Million Dollar Misfits -- managers who are probably earning a million dollars a year or more, and don't deserve it.

Sorted by three-year performance vs. benchmark, worst first

Million Dollar Misfit	3-ALARM Fund	Mgr. Tenure	Fund Assets ($mil)	Fund vs. Bench 12 Mo.	Fund vs. Bench 3 Yrs.	Fund vs. Bench 5 Yrs.	Benchmark
John W. Ballen	MFS Emerging Growth B (MEGBX)	6	6700	-12.99	-11.21	-6.31	Vang 500 Idx
Robert C. Doll, Jr.	Oppenheimer Growth A (OPPSX)	12	1600	-15.03	-11.04	-6.73	Vang 500 Idx
John W. Ballen	MFS Emerging Growth A (MFEGX)	6	5100	-12.18	-10.31	-5.39	Vang 500 Idx
Antonio Intagliata	United Accumulative A (UNACX)	20	1790	-9.02	-8.59	-6.14	Vang 500 Idx
Brad Lewis	Fidelity Stock Selector (FDSSX)	9	1650	-11.89	-7.52	-6.02	Vang 500 Idx
Cynthia Prince-Fox	United Continental Income A (UNCIX)	6	573	-7.46	-6.14	-4.51	Vang Bal Idx
John Schaffner	Nationwide Growth D (MUIGX)	18	994	-5.9	-5.62	-4.8	Vang 500 Idx
Mitzi Malevich	IDS Growth A (INIDX)	7	4330	-3.95	-5.14	-2.14	Vang 500 Idx
Paul McMahon	MFS Growth Opportunities A (MGOFX)	7	1080	-5.98	-4.88	-4.38	Vang 500 Idx
G.M Baliga	IDS Blue Chip Advantage A (IBLUX)	5	1860	-3.92	-4.72	-2.84	Vang 500 Idx
James Walline	Lutheran Brotherhood A (LUBRX)	5	1320	-2.56	-4.51	-4.86	Vang 500 Idx
Brad Lewis	Fidelity Disciplined Equity (FDEQX)	11	3100	-5.49	-4.2	-4.65	Vang 500 Idx
Mark Bavoso	MSDW Strategist B (SRTBX)	11	1750	-4.02	-2.79	-2.79	Vang Bal Idx

If we had to bet which of these managers is likely to be pursuing other interests soonest, we'd put our money on Brad Lewis.....In terms of damage, however -- the poorest performance with the largest asset base -- John Ballen and Mitzi Malevich take the prize.....Perhaps they feel guilty when they cash their $83,000 monthly paychecks?


Gotcha! Most mutual fund managers also manage private accounts, and it's not uncommon for a mutual fund managed by Company Z to buy stock directly from Company Z's private accounts, and vice versa.....Of course, in any transaction like this, there are potential conflicts of interest.....The potential for conflict is even greater if Company Z receives a performance-based fee for its private accounts, and a flat fee for its mutual funds.....Let's say Company Z owns a large block of Loser Corp. shares in its performance-based private accounts, and it wants to unload them -- now.....If Company Z dumps these shares on the market, the share price could take a hit, and so could Company Z's management fee.....But if Company Z sells the shares directly to a Company Z mutual fund, at "market price," everybody should be happy.....Well, not exactly.....It's possible that the fund could have bought the shares for less on the open market.....It's also possible that Loser Corp. shares are undesirable at any price, and the fund only bought the stock to help out Company Z's private accounts.

Ron Baron's money management firm recently got itself into a situation like the one described above, and TheStreet.com blew the whistle.....Seems that Baron's private accounts wanted to unload 650,000 shares of AMF Bowling, which represents about 11 days average trading volume.....Coincidentally, Baron Asset fund just couldn't wait to buy the entire block, and the fund paid 7 3/8 per share.....A couple of days later, and continuing for more than two months, other Baron funds started to unload their AMF stakes, at prices ranging from 6 3/4 to about 4 1/2.....Baron Asset held tight.....AMF shares recently closed at 4 7/8, representing a $1.6 million paper loss on Baron Asset's 650,000 shares.....After learning that the AMF transaction was under the microscope, Ron Baron's management firm decided that the AMF trade might not have been in the best interests of shareholders after all....Baron's firm has voluntarily put $1.6 million back into Baron Asset, and Baron says that he will continue to cover any further losses on those 650,000 AMF shares.


A reader speaks out:

If there's a mutual fund issue that's bothering you, we invite you to vent on the FundAlarm Bulletin Board.....But if there's an issue that's really bothering you, we'll try to make special arrangements.....Andrew Yeckel is really bothered by recent events at Merrill Lynch Growth.....He sent us a thoughtful analysis, and we think it's worth reading.....Andrew gave us permission to reproduce his comments, which begin below and continue on the accompanying page.

March 15, 1999 A case study in how not to treat mutual fund investors ====================================================== On Thursday morning, March 11, I was pleased to read that energy related stocks had surged on news of an impending deal by OPEC to cut production. This was just the sort of news I have been waiting for since the start of the Asia crisis in late '97. One of the victims of the crisis was a mutual fund I own, Merrill Lynch Growth fund, which, under the management of Stephen Johnes and Arthur Moretti, had built up a huge position in energy stocks during 1996. The effect of the Asia crisis was to drastically reduce overseas demand for oil, leading to a large supply/demand imbalance. As a consequence, Merrill Lynch Growth fund began a swift descent, eventually landing at the absolute bottom of performance ratings of domestic growth funds. It was a sad situation for a fund that had earned stellar gains, and the highest Morningstar ratings, throughout the '90's.

continued...

He would probably like to rephrase this:

"We're quite complimented and gratified that such a high-quality fund would choose a firm like ours."--Roger Hertog, President of Sanford C. Bernstein & Co., which was recently appointed co-manager of Vanguard Windsor

A rumor:

• The Strong funds are perennially up for sale.
• Goldman Sachs wants to boost its mutual fund presence.
• A Strong executive has solid ties with Goldman.

Out of this happy confluence comes our hot rumor: Executives at the Strong funds are negotiating with Goldman Sachs to provide financing for a management buyout, and Goldman will take a major equity position in the acquired firm.....In fact, the deal already may be done, and the announcement is just waiting until the Goldman IPO is out of the way.....A lot of the pieces fit, and our source is a good one..... Remember where you heard this one!


You've heard of "deep coma," now say hello to "deep value": If you're a large-cap value manager, and you haven't been able to outperform a large-cap benchmark like the S&P 500, you can always compare yourself to your peer group.....But what happens if you've also performed much worse than your peer group?.....You change the rules, of course, and you start calling yourself a "deep value" manager.....That way, nobody knows exactly what you mean.....Even better, nobody can compare your performance to any benchmark or peer group.....We've been hearing the term "deep value" a lot recently.....The latest underperforming manager to publicly profess "deep value" is Charles Freeman, of Vanguard Windsor.....The directors of Vanguard Windsor recently took a sizable chunk of money away from Freeman, and gave it to Sanford Bernstein & Co.....Freeman sees a silver lining, although investors will be excused if they don't share his excitement: "I am pleased that the fund's distinctive, deep-value style will not be diluted going forward."

[For those who wish to obtain a first-hand experience of deep value,
Vanguard Windsor will reopen to new investors on June 1, 1999]

Briefly noted:

• Doomed.....That's about all we can say for the Lindner funds, which recently hired a consulting firm to tell them how to run their business.....The consultants have no money-management experience, but they do have doctorates in finance, computer science, and economics.....We are suitably impressed (doctorates!), but an exorcist, a demolition expert, and an outplacement counselor would have been much more useful.....In any event, the Attack of the Consultants has already produced its first casualties: Donald Wang, manager of Lindner/Ryback Small-Cap Fund has resigned, and so has Lindner's marketing manager.....More turmoil will almost certainly follow.
  
  
  
• Many investors assume that index funds are always tax-efficient, but it ain't necessarily so.....A recent article by Lewis Braham (SmartMoney.com) spotlighted ten index funds that have distributed 9% or more of their value over the previous 12-months.....Small-, mid-cap, and international index funds were especially susceptible to taxable distributions, as cash outflows and changes in the underlying index forced them to sell profitable holdings.....Tax-managed funds are an obvious alternative to index funds, but tax-managed funds can (and often do) underperform their benchmarks.....How about a tax-managed index fund?.....Vanguard Tax-Managed Growth and Income is essentially a tax-managed version of the Vanguard 500 Index fund, and the new Vanguard Tax-Managed Small-Cap Fund tracks the S&P 600 index*.....Schwab 1000, which tracks the Schwab 1000 index, is also managed with an eye toward tax efficiency.
  
  
  
• IAI has hired its fourth president in the last 12 months.....More than a dozen managers and analysts have left IAI in the past two years, and assets under management are down 65%.
  Source: Dow Jones Newswires
  
  
  
• FundAlarm has never attended a meeting of mutual fund marketers, but we can imagine what goes on.....At noon each day, all of the assembled asset gatherers fall silent and bow towards Boston.....The homage is not for Fidelity, as you might think, but Putnam.....As Syre & Bailey recently reported, Putnam has quietly emerged as the third most voracious asset gatherer in the U.S., second only to Fidelity and Vanguard.....Putnam's key to success isn't fund performance, which has recently been poor to mediocre overall.....The real key for Putnam is its distribution network: 85% of Putnam funds are sold through financial planners, brokers and banks, and these folks are motivated to sell whether Putnam funds are up, down, or sideways.....When Fidelity funds have performance or management problems, the story is plastered all over the financial media, and many investors take the time to review their Fidelity holdings.....The same goes for Vanguard .....Putnam funds consistently manage to fly below the media radar, which means that many journalists and investors never take a close or critical look.....Remember: Just because your fund isn't in the news, doesn't meant that it shouldn't be.
  Source: "So-So Performance Doesn't Keep Cash From Flowing Into Putnam Funds"
  
  
  
• By the time you read this, The Internet Fund will be selling shares again.....For some reason, the fund's lawyer decided to authorize the issuance of only 10 million shares when the fund was first incorporated.....Those shares were all gone by mid March, so the fund had to stop taking new investors, and ask existing shareholders to authorize the issuance of another 40 million shares.....Fund management reportedly welcomed the lull, since it gave them a chance to clean up the garage and run a few errands.
  
  
  
• Michael Murphy is a mutual fund manager and convicted felon.....Something about law school, LSD, personality breakdown, a bank, give me all your money and make it quick -- you know, the typical fund manager biography.....The really interesting thing about Murphy is that he's also a widely-quoted technology guru who is, indisputably, the worst tech-fund manager in the United States over the past three years (44th out of 44).....By all rights, a miserable real-world performance like Murphy's should have some negative impact on his professional reputation and celebrity.....But it probably won't....Murphy continues to write his books, sell his newsletters ("AMERICA'S #1 HIGH-TECH STOCK PICKER"), and legally deprive other people of money just as surely as he did in his felonious youth.....Ah, the mysterious arc of life.
  "Technology Expert's Mutual Fund Takes Last Place for Past 3 Years," Karen Damato, The Wall Street Journal, February 26, 1999
  
  
• Clean 'em up and clear 'em out: Invesco is asking for shareholder permission to dissolve three mutual funds and merge eight others.....Our favorite inappropriate merger candidate is Small Company Value into Small Company Growth, followed closely by Tax Free Intermediate Bond into Tax-Free Long-Term Bond.....Other Invesco merger candidates include:
  
  

  		International Growth into International Blue Chip
  		Multi-Asset Allocation into Balanced
  		European Small Company into European
  		Asian Growth into Pacific Basin
  		Short-Term Bond into Select Income
  		Intermediate Government Bond into U.S. Government Securities

  
  Dissolving funds (in other words, those Invesco funds for which even remote or ridiculous matches couldn't be found) are Worldwide Capital Goods, Environmental Services, and Emerging Markets.
  
  
  
• The Year 2000 computer problem may generate money for some people, but not for shareholders of the HomeState Year 2000 Fund.....This shameless marketing gimmick (disguised as a technology fund) has lost about 1.8% of its value since its inception in November 1997, an amazing feat for any tech fund during that period.....Excuses?....Manager Kenneth Mertz has a million of them.....Ideas?.....He's also got a bunch of those, which means that investor money continues to be in danger.....Sense of humor?.....Asked if he thinks his fund has been a success, Mertz says that the "jury is still out".....Bad imitation of Mr. Spock?.....Mertz says that the most "logical" thing now is to turn Y2K into a "broader technology fund".....Your smartest move?.....Sell, and consider your investment in this fund a lesson learned.
  Source: "Year 2000 Fund's Performance Bugs Out," Spencer Ante, thestreet.com
  
  
  
• Updates: Patricia Falkowski, lately of UAM FMA Small Company, is now ensconced as manager of Alleghany/Chicago Trust SmallCap Value Fund.....Warren Isabelle, lately of too many places to mention, is apparently staying put at his own fund, ICM/Isabelle Small Cap Value.....Falkowski's fund has been in operation for about three months, Isabelle's for just over a year, and both are hurting along with the rest of the small-cap value funds.....If you're a contrarian with a strong stomach, and you're willing to bet on an experienced manager, Isabelle's fund could be an especially interesting play.....Down almost 31% from inception (3/9/98), it seems likely that most of the downside has been wrung out.....Then again, maybe not.
  
  
  
• Stephan Klaffke has been named lead portfolio manager of USAA Income Stock Fund.....Klaffke has been part of the team running this fund since Harry Miller retired in August....Klaffke's previous fund management experience consists of about 12 months during 1994 and 1995 as assistant manager of USAA Cornerstone and USAA Growth and Tax Strategy.
  Thanks to FundAlarm reader "JEL" for bringing this item to our attention
  
  
  
• In some cases, FundAlarm doesn't learn about a manager change until several months after it occurs.....Here's a short list of fund manager changes, not previously reported, which have occurred since January 1999:
  
  

  Fund	Former manager	New manager
  Alliance International (all classes)	Bruce Calvert	Nicholas Carn
  Babson Enterprise	Peter Schliemann	Lance James
  CitiFunds Small Cap Growth A	Lawrence Keblusek	Marguerite Wagner
  Invesco Gold	Daniel Leonard	John Segner
  MFS Large Cap Growth (all classes)	Stephen Pesek	John Lathrop

  
  
  
• Liberty Financial has backed out of its deal to buy the SoGen mutual funds....The reason: SoGen funds have lost about 40% of their assets since the purchase was first announced.
  
  
  
• In December 1998, Marina Carlson left as co-manager of two multi-billion dollar funds, Strong Opportunity and Strong Common Stock.....At the same time, Carlson was handed the reins of a tiny new fund, Strong Mid-Cap Disciplined.....Unfortunately for investors, the "disciplined" part of this fund did not include showing up for work.....On March 8, Carlson left Strong and joined the Artisan funds, where she will be part of the small-company stock team.
  Thanks to FundAlarm reader Kyle S. Farrar for his assistance with this item.

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FundAlarm © Roy Weitz, 1999