Skip to Content
US Videos

Rebalancing Stocks? Look to These Large Gold-Rated Funds

Investors might be looking to reallocate their assets as stocks continue to run up, but several large-cap equity funds could fit the bill.

Christine Benz: Hi. I’m Christine Benz for Investors have been adding money to stock funds again, but do they risk coming late to the party? Joining me to discuss that topic is Shannon Zimmerman. He’s associate director of fund analysis with Morningstar.

Shannon, thank you so much for being here.

Shannon Zimmerman: Good to be with you, Christine.

Benz: Shannon, we’ve been observing fund flows recently. We’ve seen that equity-fund flows have actually turned strongly positive after investors being pretty negative on stock funds for the years prior. Let’s talk about what investors should make of that. If they’re adding money to stock funds, is that a wise thing to do given how much stocks have rallied so far in 2013?

Zimmerman: It’s a really good question, and of course, what you wish happened is when the stock market cratered, people went in, but they didn’t.

Benz: 2009, we didn’t see it happen.

Zimmerman: Exactly. A lot of the rally is very lengthy rally. We’re well into the fifth year of a strong run for the market. Gains are big. Actually, five years is among the longest of the bull markets in terms of market history. But whether or not people are coming late to the party depends on what part of the market you are talking about. In every market environment, there are some asset classes and some areas that outperform and those that underperform.

To me, what smart investors want to do is take a look at their asset-allocation game plan and a take look at where their current portfolio is. In all likelihood, their portfolio has been moved around by the market, as well. When they’re thinking about how they want to direct their next investment dollars, they should do that in a way that kind of gets them back to where they want to be in terms of their asset-allocation game plan.


Benz: [You want to] look at your portfolio through [Morningstar's] X-Ray tools, compare it with your target, and see where you are in terms of whether it’s even wise to be adding to stocks. But assuming that you do see that you can indeed continue to add to stocks, how should investors pick their spots? Are there parts of the market that are relatively more attractive right now, or some that maybe they should be downplaying because they’ve performed so well?

Zimmerman: I think so. Our director of mutual fund analysis, Russ Kinnel, has a phrase, "Buy the unloved." And there certainly are, at least in relative terms, unloved areas of the market. If you look at our mutual fund categories, over the three- and five-year period, small-cap funds--small value, blend, and growth--have outperformed the large-cap categories. Beyond that, if you look at the market's valuation spectrum, the categories that have outperformed in the large and small buckets are growth. Growth has had it over value for the three- and five-year periods, and small-cap has had it over large in the same series.

Just at that level, this is some important information that investors can use as they reallocate or calibrate their portfolios. You can drill down from there, but you don’t want to slice the baloney too thin. But if you look at the individual market sectors, the consumer cyclical and consumer staples categories have fared the best. Health care has [also fared well], whereas energy and natural resources have fared the worst. Now, if you wanted to slice the baloney too thin, you might look for a large-value fund that…

Benz: Emphasizes those sectors, right?

Zimmerman: Right, but it’s not really necessary to do that. There are easier ways that people can rebalance toward the unloved.

Benz: So you want to, in general, think about steering more toward large value and scaling back on the small- and mid-cap growth stocks.

Zimmerman: That’s right.

Benz: If you are looking at that large-value part of the market, which it sounds like you think is pretty attractive right now relative to the rest of the market, let's talk about some funds that Morningstar's fund analysts like the best within that large-cap value category.

Zimmerman: It’s a pretty large, very competitive category with lots of solid offerings. But there are only four funds within the category that have gotten the highest Morningstar Analyst Rating, the rating of Gold.

Just to recap, that is an indication that the analyst who covers the fund--and it goes through a process that lots of people are vetting that rating--ultimately the analyst's conclusion is that this fund stands the greatest likelihood of beating its typical peer in its category over a full market cycle.

Out of that entire category, only four have received a Gold rating, so it’s kind of an exclusive group. Two of them I especially like: T. Rowe Price Equity Income and Dodge & Cox Stock.

Benz: Let's take a closer look, starting with the T. Rowe fund. Let's talk about the thesis there, why we think that should be one of investors' go-to choices when they’re looking at that large-value square [on the Morningstar Style Box].

Zimmerman: One of the most important things that we look at when we’re assigning those ratings is the manager and the manager tenure. Brian Rogers has been in charge since, I think, Walter Mondale and Ronald Reagan were competing for the presidency, since 1984-85. It’s an equity and income fund, and it’s interesting right now because people are scrambling for yield in the low-interest-rate environment.

Benz: Yes. We’ve seen a mania for anything with a dividend attached to it.

Zimmerman: Exactly. Anytime you see a mania, probably you want to head in the other direction. In this category, it's a fairly sensible category, but this is, even relative to that, a very sensible fund. [Rogers] doesn’t scramble after yield. Right now, the fund’s yield is above where the market is, but that hasn't historically always been the case. And he is more focused on the fundamentals of the companies that he invests in rather than the yield. Most of the stocks in the portfolio do pay a dividend but not all of them do. If he likes the valuation, if he likes the fundamentals of the company, he’s willing to hold it there, too.

He’s been there since 1985, and over the last 15 years--obviously, he owns all the track record--the fund has gained, I think, about 7% annualized the last time I checked. That ranks in the top quartile of its category. It’s cheap, too, [with an expense ratio of] 68 basis points, which is low relative to the broad category average price tag, but then also relative to that of other large-cap funds that are sold in the same channel.

Benz: It's also fairly balanced from a sector perspective. It’s not one of those large-value funds that’s going to own just industrials and financials. It has some broad-based exposure.

Zimmerman: Absolutely. It’s well-diversified and doesn’t focus on distressed stories either.

Benz: The other one that you want to focus on, Dodge & Cox Stock, has been a high-conviction fund for us really since we started naming favorites within categories. Let's talk about the thesis there and why you think it should be a contender for investors’ new investment dollars. It did have a very rough go of it back in the bear market.

Zimmerman: It certainly did, and in some ways, the rough go it had is baked into its DNA because as with the T. Rowe Price fund, the folks who run [Dodge & Cox Stock], and it’s a committee-based approach, have been at it for a long time. They are buy-to-hold investors. If their conviction in the thesis that they have for the holdings remains intact, they stick to it through thick and thin, and it was thin for a long time particularly with a company like Hewlett-Packard, which they stood by for quite a while. That HP story has turned--and that doesn’t account for all of the performance more recently of this fund--but still that sort of shows how willing they are to buck the trend and stick with names that they like if they continue to like them.

Benz: This is another fund like the T. Rowe fund that has fairly low costs for an actively managed fund. We’ve see these flows into exchange-traded funds, which in some respects is a healthy development, but these are good managers who aren't charging an arm and a leg for worthy funds.

Zimmerman: They're not even charging a finger. [The expense ratio is] 52 basis points for this fund, and the strategy is sound. Our analyst who covers it is positive across the board. Their process is a fundamental, kick-the-tires, let’s-do-our-homework [process]. It's as plain-vanilla as it gets, except they do their homework very well and have over time.

Benz: Shannon, thank you so much for being here. It’s kind of a tough market to make sense of. We appreciate you sharing your insights.

Zimmerman: My pleasure.

Benz: Thanks for watching. I’m Christine Benz for

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