Core Funds That Complement Index Trackers
Try this screen for core funds that zig when the index zags.
Index fund investors looking to diversify their portfolios may want to consider adding exposure to actively managed funds that don't move in lockstep with the overall market. These funds tend to be run by managers who don't let benchmarks guide their stock-picking or sector-weighting decisions. Using the following criteria, Morningstar's Premium Screener can point to intriguing large-cap funds that have delivered compelling returns without following an index, and sport other attractive traits for long-term-focused investors.
To set up the screen, narrow the field to domestic-stock funds with below average expense ratios and investment minimums of $25,000 or less. Next, set the three-year R-squared measure, which represents the percentage of a fund's performance that can be explained by movements in a benchmark index, to 85 or less. (The typical large-cap fund had an R-squared of 93 for that period.) In the case of all equity funds, the S&P 500 is used as the standard index, and an R-squared of 100 indicates that the fund's performance moved in tandem with that benchmark. Lastly, narrow the search to funds with top quartile five-year rankings and manager tenures of at least five years. To run the screen yourself, click here.
Side note: This screen can be run for international-stock funds, in which case the Premium Screener would compare those funds with the MSCI EAFE Index.
Going his own way is the foundation for manager Bruce Berkowitz's success with Fairholme (FAIRX). Berkowitz, who took home our 2009 Manager of the Year Award, has run this fund since its December 1999 inception, and he's successfully applied his Warren Buffett style across the market-cap spectrum. In addition to a large stake in mid-cap stocks, his willingness to buy high-yielding senior debt and hold large cash stakes has also made this fund stand out from the crowd. Indeed, this fund has a three-year R-squared of 82. Thanks to strong stock selection, this large-blend Fund Analyst Pick has produced returns that handily outpace the index and the competition over the past decade.
As its name implies, Janus Contrarian (JSVAX) hasn't been a benchmark-hugger under manager David Decker's watch. (It sports a three-year R-squared of 81.) Like Berkowitz, he also looks across the market-cap spectrum, but this fund really stands out because of its foreign exposure. Over the years, Decker has seen good opportunities coming from the Indian banking and power industries, as well as from real estate companies in Asia, and he hasn't been afraid to load up. The fund has held roughly one fourth to one third of its assets in foreign stocks in recent years, whereas most large-cap funds have less than 10% invested in such stocks. This stake hurt the fund during last year's downturn, but it also helped the fund come roaring back with a 37% gain in 2009, putting it 10 percentage points ahead of the bogy. Because this fund can shoot the lights out during market rallies and fall harder than its peers during downturns, this core option is best suited for investors with a steady hand.
At Yacktman (YACKX), veteran managers Donald Yacktman and Stephen Yacktman tend to favor consumer- and service-oriented stocks that have strong cash flows, little debt, and discounted stock prices. True, Coca-Cola (KO) and Procter & Gamble (PG) garner the top spots here as well as in the index, but small companies like food manufacturer Lancaster Colony (LANC) and used car lender AmeriCredit (ACF) also hold prominent spots. And management also bets big on individual stocks, as its recent 6% stake in AmeriCredit can attest, giving this portfolio its distinct look and a three-year R-squared measure of 83. Though management's contrarian bets and long-term outlook can cause this fund to lag for extended periods of time, it should continue to be a long-term winner.
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Karin Anderson does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.