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Fund Spy: Morningstar Medalist Edition

Third-Quarter Winners and Losers Among U.S. Stock Funds

Domestic equities continued to reach new highs.

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After a volatile, but positive, first half of 2016, U.S. stocks continued to climb during the third quarter through Sept. 22. The S&P 500 was up 4.2%, while the Russell 2000 Index was up 10.0%. U.S. employers added an average of approximately 232,000 jobs during June, July, and August, but that wasn't enough to push the Federal Reserve to raise short-term interest rates at its Sept. 21 policy meeting.

Technology stocks within the Russell 3000 Index have led the way thus far in the third quarter, climbing 13%. Top performers included hardware firms  NetApp (NTAP),  Apple (AAPL), and GoPro (GPRO), all of which rose more than 20%. Financial-services stocks also posted strong results this quarter, climbing 8%. Brokers and exchanges  Morgan Stanley (MS),  Charles Schwab (SCHW), and E*Trade Financial (ETFC) all rose more than 20%; banks Citizens Financial (CFG) and  Bank of America (BAC) climbed more than 18%.

After delivering very solid returns during the first half of 2016, the dividend-heavy utilities and consumer defensive sectors took a breather in the third quarter. Utilities fell 2%, led by declines in Aqua America (WTR),  American Water Works (AWK), and Southwest Gas (SWX). Consumer defensive stocks also fell 2%, driven by tobacco firms  Reynolds American (RAI) and  Altria (MO) and consumer packaged goods firms  Campbell Soup (CPB),  Hershey (HSY), and  Mead Johnson Nutrition (MJN). Within the REIT space, private-prison operators Corrections Corp of America (CXW) and GEO Group (GEO) plunged more than 20% after the U.S. Department of Justice announced it will end its use of private prisons.

After gaining 30% during the first half of 2016, Brent crude prices were down 4.1% to $47.65 per barrel for the quarter to date. As a result, the energy sector was down 0.5% for the quarter;  Exxon Mobil (XOM) and  Halliburton (HAL)  were both down more than 5%.

Morningstar Style Box Categories
Small-cap funds outperformed their larger-cap counterparts in the third quarter, as they did in the second quarter. Small-growth was the top-performing Morningstar Category in the Morningstar Style Box for the third quarter through Sept. 22, gaining 9.0%.  Meridian Small Cap Growth (MISGX), which has a Morningstar Analyst Rating of Bronze, outperformed 81% of its small-growth peers with a gain of 11.6%. Strong stock selection in the technology and healthcare sectors helped the fund. Application software firms Carbonite (CARB) and DTS (DTSI) as well as medical diagnostics firms Accelerate Diagnostics (AXDX) and Exact Sciences (EXAS) all gained more than 50% this quarter. The small-value category gained 7.7% in the quarter. Bronze-rated  Royce Opportunity (RYPNX) has outperformed 99% of its small-value peers, gaining 12.6%. The fund's big overweighting to strong-performing technology stocks--particularly semiconductor and computer hardware stocks--was the main driver of outperformance. The fund was also helped by solid stock selection in the consumer cyclical sector.

There was little dispersion between the mid-growth, mid-blend, and mid-value categories during the quarter, as all gained approximately 5%. Bronze-rated  Meridian Contrarian (MVALX) rose 10.4% and outperformed 97% of its mid-growth peers. Solid stock selection in the technology space--including the semiconductors and application software industries--drove the bulk of results. On the flip side, Silver-rated  Artisan Mid Cap Value (ARTQX) trailed 83% of its mid-value peers, but it still gained 3.5% for the quarter to date. Although the fund has been a top performer this year, in part because of its overweighting to gold miners such as  Goldcorp (G) and  Kinross Gold (K), the fund has struggled in the third quarter as those stocks have given back some of their gains.

The large-growth category gained 6.0% this quarter. Bronze-rated  Fidelity OTC (FOCPX) gained 12.7%, which was better than 99% of its peers. The fund's more than 50% allocation to strong-performing technology stocks was the main driver of those results, although the fund had been among the worst performers during the first half of 2016 as technology stocks struggled.

Large-blend and large-value were the weakest-performing categories in the Morningstar Style Box for the third quarter, though both still gained about 4%. Neutral-rated  Prudential Jennison Equity Income (AGOCX) was down 1.1% this quarter, underperforming 99% of its large-blend peers. The culprit was its overweighting to poor-performing REITs and consumer defensive stocks and its underweighting to strong-performing technology stocks. It also was hurt by its large holding in  Bristol-Myers Squibb (BMY), which fell nearly 25% this quarter after unexpectedly announcing one of its cancer treatment drugs, Opdivo, missed phase 3 trials. Neutral-rated  Columbia Dividend Opportunity (INUTX)  was up just 0.5% for the quarter--worse than 97% of its large-value peers. The main driver of underperformance was its big overweighting to struggling energy stocks, as well as its meaningful position in Bristol-Myers Squibb.

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