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Common Questions (and Answers) for Uncommon Markets

Five frequently asked questions for shell-shocked fund investors.

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Global markets took another beating on Jan. 20, continuing a volatile opening few weeks for global stocks in 2016. Many fundholders are wondering how much they should worry about or adjust their own portfolios in the midst of the turmoil. Here are some answers to common questions that have arisen during these tumultuous markets. 

How much is the typical fund down?
Stock funds, particularly those owning smaller, pricier, lower-quality U.S. shares and emerging-markets stocks, bore the brunt of the 2016 sell-off through Jan. 20. The average U.S. equity fund was down 10.2%. The average international-equity fund (including pure emerging-markets and world-stock funds) was down nearly 10.6%, and the typical taxable-bond fund was down 0.83%, with high-yield and developing-markets bond funds--down more than 3% each--accounting for much of the losses.

The mean alternative fund was a down 2.4%, while the average allocation fund had fallen nearly 6.3%. Municipal-bond funds generally were holding their own, posting average gains of about 0.87%.

U.S. funds on the growth side of the Morningstar Style Box fell a little harder by losing 10.5%, while funds in the value column shed 10.2%. Large-cap stocks have generally been better than small caps, with the former slipping 9.6% and the latter 11.3%. Mid-cap funds lost about 10.6%. The market-cap difference was also evident among international-equity funds through Wednesday. The typical fund in the broad international group (once again, including emerging-markets and world-stock funds) that had a small-cap style box had shed 10.6%, while funds in that group with a large-cap style box lost 10.5% on average.

Have certain funds suffered more than others?
Generally, more-aggressive, growth-oriented, smaller-cap funds that tend to own more lower-quality stocks have fared the worst thus far.

The typical fund that ranked in the bottom fourth of all U.S. equity funds had lost 12.2% through Jan. 20; it had a smaller average market cap than the broad asset class, a higher average price/earnings ratio, less money in wide-moat stocks, and narrower net margin and returns on assets, equity, and invested capital than the average domestic-equity fund. Bottom-quartile U.S. equity funds also tended to have more in industrials, consumer cyclical, and technology stocks.

Internationally, stock funds in the bottom fourth of all diversified foreign, emerging-markets, and world-stock funds lost 12.6% through Jan. 20. The worst-performing funds in this very broad group also had a smaller average market cap, lower profitability ratios, less exposure to consumer defensive, healthcare, and industrials stocks, and more exposure to technology, energy, and financials. Emerging-markets exposure has taken a toll, as well. The typical bottom-quartile international-stock fund had about 37% in developing markets versus 21.6% for the rest of the non-U.S. stock fund universe. This broad group includes very narrowly focused funds and so-called frontier-markets funds, such as T. Rowe Price Africa & Middle East (TRAMX), which had shed more than 17% through Jan. 20, and hard-hit China-focused offerings, such as  Matthews China (MCHFX) and Fidelity China Region (FHKCX), which each plummeted by more than 16%.

Has there been any way to sidestep losses?
Losses have been broad, but not all-encompassing. For those who have stayed diversified and limited exposure to some of the dicier and pricier realms of the global markets, the pain has not been as acute.

Some bond Morningstar Categories, particularly the short-, intermediate-, and long-term government-bond categories, posted small gains. The more diversified short-, intermediate-, and long-term bond fund categories were also flat or up. All municipal-bond categories were up 1% or less. In general, broadly diversified bond funds have provided some measure of protection;  Vanguard Total Bond Market Index (VBTLX) was up 1%.

The commodities precious-metals category, another safe-haven group, was up more than 4.0% through Jan. 20. And if you had the prescience to buy a bear-market fund before the start of the year, you've gained 16.6% on average through Wednesday. Few had such foresight, though. The category saw more than $1.0 billion in outflows in 2015 and $1.7 billion in outflows in 2014.

Near-dated target-date funds and traditional balance funds were down for the year, but much less than the equity markets. They essentially have done their job. Target-date funds designed for investors planning to retire in 2015 or earlier shed about 4% on average. Conservative-allocation funds lost 4% on average, and moderate-allocation 6.3%.  

Are any active funds earning their keep?
Morningstar's vice president of research John Rekenthaler pointed out on Wednesday that fewer than half (in some categories much less than half) of actively managed equity funds have beaten passive benchmarks so far this year. Even if only 40% of actively managed U.S. stock funds have beaten relevant indexes, that means there are still more than 890 funds that are ahead of their bogies. Top U.S. actively managed equity funds include  Federated Strategic Value Dividend (SVAIX), which has been helped by a big weighting in the United Kingdom, including  GlaxoSmithKline (GSK);  American Century Equity Income (TWEIX), which tends to own a smidgeon of fixed income and convertibles and has a history of downside protection; and the concentrated and opinionated  AMG Yacktman (YACKX) and  AMG Yacktman Focused (YAFFX). Other U.S. stock funds holding up well include dividend- and quality-focused funds, such as  Invesco Diversified Dividend (LCEAX),  ClearBridge Dividend Strategy (SOPTX),  Vanguard Dividend Growth (VDIGX),  Columbia Dividend Income (LBSAX),  Neuberger Berman Equity Income (NBHIX),  Jensen Quality Growth (JENSX), and  BBH Core Select (BBTEX).

Non-U.S. active equity funds that have held their own include  Matthews Asian Growth & Income (MACSX) and  IVA International (IVIOX), which have both lost less than their peers and benchmark. A diet of dividend-paying stocks, convertible bonds, and preferred stocks helped the Matthews fund, while a large cash stake and slug of gold bullion have buoyed IVA.

My fund is not only losing, but it is underperforming its peers. Is it a good idea to revisit my decision to own it?
You certainly want to avoid making knee-jerk portfolio alterations in response to market movements. However, a veteran fund manager who long ran low-turnover portfolios once said that buy-and-hold is not an investment discipline, it's a behavior. The point is that buying and holding just for the sake of buying and holding is irrational. If the thesis behind buying a security or fund changes or breaks, it's perfectly rational to revisit the reasons for keeping it in a portfolio.

A sharp downturn can be such a catalyst for review. It's important to stay focused on the fundamentals rather than solely on performance, though. If the manager, process, fees, parent asset-management company, and long-term track record that attracted you to the fund in the first place remain intact, stay put. If something significant has changed in the investment team, approach, stewardship, costs, or portfolio, then you should ask if this fund still fits in your overall plan.

Admittedly, it can be difficult to discern a fund that is experiencing temporary turbulence from one that has slipped into an inexorable downward spiral. Among the important questions to ask: Is this fund behaving as expected in this environment? You may not want to ditch a growth fund for acting like growth fund in a market that's hostile to its style, for instance. Though it had lost nearly 12% this year through Jan. 20,  Primecap Odyssey Aggressive Growth (POAGX) is not a sell candidate because its primary attractive features remain unchanged. It has the same seasoned management team that has achieved superior long-term results here and elsewhere with a proven contrarian growth process. Fees are also low and fund-family integrity is high. You would regret giving up all that in a moment of fear and dread.

Dan Culloton has a position in the following securities mentioned above: POAGX, VDIGX. Find out about Morningstar’s editorial policies.