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Fund Spy

Five Funds Fighting the Battle of the Bulge

A closer look at asset bloat in the world's largest small-cap funds.

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The May 2006 issue of Kiplinger's magazine contained an article called "When BIG Isn't Better," which concerned small-cap funds with large asset bases that remain open to new investments. The article warns against the evils of asset bloat--a sound warning--and suggests a good rule of thumb: A billion dollars in assets at a small-cap fund should serve as a red flag.

The article contains a table that ranks the 10 largest open small-cap funds by total assets. The table's organization could lead a reader to believe that the bigger a fund is, the more bloated it is. We don't think that's true.

Before examining the issue in depth, we should first define what asset bloat is. As a fund grows, it gradually becomes more difficult for management to execute its established strategy. Say a manager prefers to initially invest 1% of a fund's assets in each stock he buys. As a fund's asset base grows from $500 million to $1 billion to $3 billion, all things being equal, that gets tougher to do, especially in less-liquid small caps.

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