Little-Known Funds Often Give Big Returns
From value-focused Heartland to growth-grabber Wasatch, you can miss a lot by focusing on big-name funds
CHICAGO — Mutual fund investors, beware.
Don't be so enamored of blue-chip index funds and big-name growth funds that you neglect hidden gems - the small funds with potential to shine.
In fact, now - when many fund-industry Goliaths have led the way to new market highs - looks like an ideal time to seek out the overlooked Davids, some investment advisers say.
"Small funds tend to be more aggressive because they need to win the high-return tournament and become big, high-profile players," says Charles Trzcinka, professor of finance at the State University of New York in Buffalo.
But that doesn't make them more risky.
The large companies bought by index funds, which mirror the Standard & Poor's 500, strike some analysts as overvalued.
And smaller funds are by nature nimble. They can adapt to market turmoil or take fast advantage of new opportunities. Some of these funds will, by sheer boldness, blow right by larger rivals.
Many small funds focus on value - finding stocks selling below "fair" price - as their key strategy. These stocks are thus somewhat sheltered from steep declines.
Here are just a few of the small fund houses worth following:
Heartland Funds of Milwaukee (800-432-7856) has made its name in stocks that sell below their true financial strength.
Since launching the Heartland Value Fund in 1984, William Nasgovitz has stuck to its value focus and small-company stocks, riding to average annual returns of nearly 23 percent over five years.
Although Value is closed to new investors, Heartland offers other no-load funds with the same record of solid gain with minimal pain. The Value Plus fund also buys small-company stocks but seeks income as well - with 20 percent of assets earning a good yield in convertible bonds or convertible preferred stocks.
"Value investing is almost genetic for us," says Ron Saba, manager of Value Plus, up 21.9 percent over three years.
Wasatch Funds (800-551-1700) also tend to invest in "small-caps," companies typically worth less than $500 million, when stock price is multiplied by the number of shares. But the Salt Lake City group tilts toward growth stocks. Its managers also tend to buy and hold - with much lower turnover than peers have. A shakeout in technology stocks hurt returns in the past year, but managers are upbeat.
"We are at a rare time when the gap between small-cap and big-cap, in terms of relative price-earnings ratios, is actually in favor of small-cap and as low as it has ever been," says Jeff Cardon, manager of Wasatch's Aggressive Equity Fund.
On the ratio of share price to earnings growth, "you are actually getting a discount with small stocks when typically you would pay a premium," he says.
As at Heartland, Wasatch is owned by its managers, encouraging them to stay around and act in investors' interests.
If you want to follow a rising star, Warburg Pincus in New York may be for you (800-257-5614). Brian Posner arrived in January from Fidelity's $16 billion Equity-Income II fund. Now he heads Warburg's $548 million Growth & Income fund.
In his last five years at Fidelity, Mr. Posner averaged an annual pre-tax return of 17 percent with comparatively low risk. He has overhauled Growth & Income, reducing the fund's holdings in financial services companies from 35 percent to 14 percent. Drawing on Fidelity's trademark "bottom-up" (stock by stock) style, he now likes energy, utilities, and telecommunications.
Investors seeking small- or mid-cap with a growth focus might consider PBHG, the ultimate in momentum style (800-433-0051). Prior to the shakeout in technology stocks a year ago, PBHG racked up some of the most impressive three-year returns in the business by latching onto expensive stocks with hyper-promising earnings growth.
Despite a rocky period, the Wayne, Pa., fund family has stuck to its guns.
"We have to keep a clear-headed focus on doing what we have been good at," says Gary Pilgrim, a co-founder of PBHG and manager of its Growth Fund.