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Fund Spy: Morningstar Medalist Edition

3 Young Funds with Competitive Advantages

Can these funds harness what makes them stand out?

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If there's one essential ingredient for an interesting investment, it's a competitive advantage.

A few recent graduates of Morningstar Prospects, a list of emerging, unknown, and re-emerging managers underscore this. To stand out in a crowded field of active and passive options, traditional active managers must demonstrate a genuine edge. Three former members of Morningstar Prospects, which is updated quarterly in Morningstar Direct, displayed distinct kinds.

Unique Knowledge
 Eventide Gilead (ETILX) manager Finny Kuruvilla boasts unique expertise and perspective. Kuruvilla not only has multiple advanced degrees, including a medical degree and a doctorate, but also venture capital experience. That gives him the confidence to own a lot of biotechnology and technology shares. Eventide Gilead also falls in the environmental, social, and governance, or ESG, camp because Kuruvilla invests according to Christian principles. The fund's since-inception returns have been impressive, but the fund earned a Morningstar Analyst Rating of Neutral when it graduated from Prospects to full coverage in early 2015 because of relatively high fees and the fact that it hadn't traversed a full market cycle yet. It has struggled in the second half of 2015 as biotech and healthcare stocks have fallen sharply; it will be interesting to see how Kuruvilla and the fund respond.

Strict Discipline
St. Paul, Minnesota-based Mairs & Power might seem too quirky because the firm focuses on companies in its home state and the upper Midwest. Look closer, though, and the odd stricture looks more like an effective method of imposing discipline and describing a circle of competence. Focusing geographically allows Andy Adams, manager of the four-year-old  Mairs & Power Small Cap (MSCFX), to invest with conviction for the long term in a few dozen companies that he knows intimately. It's a strategy that has worked for decades at  Mairs & Power Growth (MPGFX) and helped Mairs & Power Small Cap garner a Silver rating in June.

Risk Aware
Surviving a trial by fire was formative for  Meridian Small Cap Growth (MSGRX) managers Chad Meade and Brian Schaub. They joined Janus Capital as analysts at the start of the 2000-03 growth and tech stock bear market and learned the hard way that "stocks go down," as Meade said. Those harrowing years imprinted on them the importance of managing risk. To do so, the managers (who now work for Arrowpoint Partners) learned to focus on companies with durable competitive advantages, reliable cash flow, decent balance sheets, and unique products serving critical needs in growing markets. The fund has stumbled a bit in the second half of 2015, but its approach has delivered competitive results previously at Meade and Schaub's prior assignments at  Janus Venture (JAVTX) and  Janus Triton (JATTX). The fund earned a Bronze rating in October.

There are many types of competitive advantages, but you could do worse than having better knowledge, discipline, and attention to risk than your rivals.

A version of this article originally ran in the second-quarter edition of Morningstar Prospects, a publication highlighting promising managers that Morningstar Manager Research analysts currently do not cover but may cover in the future. The full list and publication is available to subscribers of Morningstar Direct.

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