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Tracking Down Cash-Stashing Funds

Avoid funds that build heavy cash stakes on your dime.

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Morningstar's fund analysts seem to be talking more and more about asset bloat these days.  That's the phenomenon that occurs when funds get so big that the portfolio manager can't put all the money to work using the fund's preferred investment style. Morningstar analysts keep an eye out for bloated funds, and we often call on large funds to close to new investment to prevent degraded performance or style shift. For more on the subject, read "Why Great Funds Need to Close".

When Morningstar analysts look for asset bloat, the first two things we look for are style shift and a growing roster of holdings. Next on the list would be rising levels of cash in the portfolio. Often, managers have a tough time putting a fund's entire asset base to work, so they let cash pile up. Usually this happens for two reasons, sometimes simultaneously: Assets are flowing in quickly and heavily, or management can't find enough of the right types of stocks to buy. Letting cash build up isn't a problem per se, but in extreme cases, a problem we call "cash stashing" occurs. That's when already-large funds remain open, building a big pile of cash. Given that investors pay an expense ratio that covers all assets--not just the invested portion of a fund--cash stashing serves investors poorly in our view.

It's a bit difficult to find a whole roster of funds that suffer from general asset bloat, but it's relatively easy to locate cash stashing. Judging whether a fund has a bloated asset base demands lots of historical information. You can't look simply at current asset size to judge whether a fund has gotten too big. You've got to examine how a fund has grown and shifted over time. In other words, you have to look at each fund individually. But cash stashing is a bit easier to spot. You look for big, open funds with large cash stakes. For this edition of Five-Star Investor, we'll be concentrating on funds whose high fees exacerbate the problem.

Todd Trubey does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.