Best and Worst Style Funds

The best funds have high-quality holdings and low costs. As detailed in “Cheap Funds Dupe Investors”, there are few funds that have both good holdings and low costs. While there are lots of cheap funds, there are very few with high-quality holdings.

Without speculating on the cause for this disconnect, I think it is fair to say that there is a severe lack of quality research into the holdings of mutual funds and ETFs. There should not be such a large gap between the quality of research on stocks and funds, which are simply groups of stocks.

The full series of my reports on the Best & Worst Sec­tor and Style Funds is here. These works analyze both quality of holdings and the costs of all funds. My Style Fund Roadmap report ranks all 12 styles.

After all, investors should care more about the quality of a fund’s holdings than its costs because the quality of a fund’s holdings is the single most important factor in determining its future performance.

My Predictive Rating system rates 7400+ mutual funds and ETFs according to the quality of their holdings (Portfolio Management Rating) and their costs (Total Annual Costs Rating).

The following is a summary of my top picks and pans for all style funds. I follow this summary with a detailed report on each style.

Figures 1 shows the best fund in each investment style as of February 2, 2012. There are no attractive funds in any of the Mid Cap and Small Cap styles.

For a full list of all funds for each investment style ranked from best to worst, see our free fund screener.

Figure 1: Best Funds by Investment Style

Source:     New Constructs, LLC and company filings

Figure 2 shows the worst fund for each investment style as of February 2, 2012.

Dangerous-or-worse-rated funds have a combination of low-quality portfolios (i.e. they hold too many Dangerous-or-worse rated stocks) and high costs (they charge investors too much for the [lack of] management they provide).

Figure 2: Worst Funds by Investment Style

Source:     New Constructs, LLC and company filings

Ivy Funds: Ivy Small Cap Value Fund [s: IYSBX] is the worst small cap value fund and gets my Very Dangerous rating. The Portfolio Management rating for this fund is Dangerous and the Total Annual Cost Rating is Very Dangerous, resulting in a lose-lose value proposition for investors. The managers at IYSBX have a lot of nerve charging an investor over 5% per year over 3 years.

One of my least favorite stocks in this fund is Triumph Group, Inc. [s: TGI]. It gets my Very Dangerous rating because of misleading earnings and an expensive valuation. The company’s ROIC is 7%, well below its cost of capital. To justify its valuation, the stock at $63 implies the company will grow its profits at 10% compounded annually for 15 years. Good luck.

Traditional mutual fund research has focused on past performance and low management costs. The quality of a fund’s holdings has been ignored. Our Portfolio Management Rating examines the fund’s holdings in detail and takes into account the fund’s allocation to cash. Our models are created with data from over 40,000 annual reports. This kind of diligence is necessary for understanding just what you are buying when you invest in a mutual fund or an ETF.

Figure 3 shows the best fund based on our Portfolio Management Rating for each investment style as of February 2, 2012.

Attractive-or-better-rated funds own high-quality stocks and hold very little of the fund’s assets in cash – investors looking to hold cash can do so themselves without paying management fees. Only 2% of funds receive our Attractive or Very Attractive ratings, so investors need to be cautious when selecting a mutual fund or ETF – there are thousands of Neutral-or-worse-rated funds.

Figure 3: Funds With Highest Quality Holdings by Investment Style  

Source:     New Constructs, LLC and company filings

Figure 4 shows the worst fund based on our Portfolio Management Rating for each investment style as of February 2, 2012.

The worst fund for each investment style is an actively managed mutual fund; none of the worst investment style funds are passively managed ETFs. Investors pay mutual fund managers to pick stocks for them. Even ignoring costs, mutual fund managers do a poor job investing money for their clients.

Figure 4: Funds With Lowest Quality Holdings by Investment Style  

Source:     New Constructs, LLC and company filings

Investors should care about all of the fees associated with a fund in addition to the quality of the fund’s holdings. The best funds have both low costs and quality holdings – and there are plenty of low cost funds available to investors.

Figures 5 shows the best fund in each investment style according to our Total Annual Costs Rating.

Total Annual Costs incorporates all expenses, loads, fees, and transaction costs into a single value that is comparable across all funds. Passively managed ETFs and index mutual funds are generally the cheapest funds.

Figure 5: Funds With Lowest Costs by Investment Style  

Source:     New Constructs, LLC and company filings

The most expense fund for each investment style has a Very Dangerous Total Annual Costs Rating. Investors should avoid these funds and other funds with a Very Dangerous Total Annual Costs Ratings because they charge investors too much. For every fund with a Very Dangerous Total Annual Costs Rating there is an alternative fund that offers similar exposure and holdings at a lower cost. We cover over 7000 mutual funds and over 400 ETFs. Investors have plenty of alternatives to these over priced funds.

Figures 6 shows the worst fund in each investment style according to our Total Annual Costs Rating.

 Figure 6: Funds With Highest Costs by Investment Style  

Source:     New Constructs, LLC and company filings

Dis­clo­sure: I own MSFT. I receive no com­pen­sa­tion to write about any spe­cific stock, sec­tor or theme.


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