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Primecap Odyssey Growth: Stellar Record, Low Fees

This Gold-rated fund is a fine vehicle for new investors to gain access to the Primecap managers.

David Kathman, CFA, 01/21/2017

The following is our latest Fund Analyst Report for Primecap Odyssey Growth Fund POGRX. Morningstar Premium Members have access to full analyst reports such as this for more than 1,000 of the largest and best mutual funds. Not a Premium Member? Gain full access to our analyst reports and advanced tools immediately when you try Morningstar Premium free for 14 days.

Primecap Odyssey Growth is one of six funds managed by the Primecap team, whose Vanguard Primecap VPMCX has achieved one of the fund industry’s best track records during the past 30 years. The managers' patient, disciplined contrarian growth strategy emphasizes companies with strong growth potential but temporarily depressed valuations, and they're willing to hold on to stocks for a long time waiting for a turnaround. Each of the five portfolio managers independently runs a sleeve of assets, allowing them to follow their convictions within this broad strategy, and they don’t hesitate to make significant sector and industry bets in areas where they see a lot of potential. In recent years, technology, biotech, and airline stocks have been the managers’ favorites.

Within that framework, this fund stands in the middle of the Primecap Odyssey funds in terms of its growth orientation; it is more aggressive than relatively cautious large-blend sibling Primecap Odyssey Stock POSKX but not as risky as mid-cap growth Primecap Odyssey Aggressive Growth POAGX, which holds considerably more small- and mid-cap stocks (70% versus this fund's 42%). Its top holdings include big names like Microsoft MSFT and Amgen AMGN but also smaller, faster-growing stocks such as   Seattle Genetics SGEN and Abiomed ABMD, both of which were among the top five holdings as of Sept. 30, 2016.

This approach has worked very well since the fund's 2004 inception and has mostly helped the fund avoid the performance extremes of some of its siblings. It has only trailed the large-growth Morningstar Category in two calendar years since inception (2007 and 2011), and it easily beat the category each year from 2012 through 2016, even as several other Primecap funds went through rough stretches. The fund will inevitably go through some periods when it trails its peers, such as the first half of 2016, when returns were dragged down by healthcare and airline holdings. But such short-term slumps are nothing to worry about, and its stellar record and low expenses earn it a Morningstar Analyst Rating of Gold. It and Primecap Odyssey Stock are the team's only funds that remain open to new investors.

Process Pillar: Positive | David Kathman, CFA, Ph.D. 01/06/2017
The Primecap management team uses a stock-picking strategy very similar to that found at the American Funds, where the founders worked before starting Primecap. That strategy can perhaps best be described as patient contrarian growth. The managers look for companies that have grown rapidly in the past and have good future growth potential but that have become temporarily cheap for some reason.

The team is often willing to wait for a stock to rebound, as long as nothing about the company has fundamentally changed. As a result, the Primecap Odyssey funds have very low turnover, typically around 10% annually, and favorite stocks can stay in the portfolio for years. When the managers do trim or sell a stock, it's usually for valuation reasons, though occasionally they'll sell because something about the company or the economic environment has shifted significantly.

Relative to the five other funds this team runs, this fund is more aggressive than the more corelike Vanguard Primecap and Primecap Odyssey Stock. It focuses a bit more on small- and mid-cap stocks; its $25 billion average market cap as of January 2017 is smaller than the team's other charges except for Primecap Odyssey Aggressive Growth. It also tends to have more-pronounced sector bets than its siblings, with greater weightings in fast-growing biotech and diagnostics stocks.

Each Primecap portfolio is divided into sleeves that are managed independently by each of the listed managers, with some senior analysts also getting small sleeves to run. This approach tends to keep the overall portfolio fairly diversified, but, because all the managers interact frequently and tend to look at the market in similar ways, the portfolio is often significantly tilted toward sectors and industries that the managers find attractive.

For the past several years, this fund has been relatively heavy in healthcare stocks, which made up 35% of the portfolio as of Sept. 30, 2016, higher than Vanguard Primecap's 28%. As in Vanguard Primecap, the managers like Big Pharma and biotech stocks such as Amgen,  Eli Lilly LLY, and Biogen BIIB; some of these were struggling a few years ago because of concerns about their drug pipelines, but most of them came back strongly in 2013 and 2014. In this fund, more than in their Vanguard funds, the managers also hold quite a few smaller biotech and diagnostic stocks such as Seattle Genetics and Abiomed, both of which were among the top five holdings as of Sept. 30, 2016. These smaller stocks outperformed the big biotech names in 2015 and 2016.

The fund's second-biggest sector weighting is in technology, at 31%. It holds a combination of big names such as Microsoft and smaller ones such as  BlackBerry BBRY.

Performance Pillar: Positive | David Kathman, CFA, Ph.D. 01/06/2017
This fund has been a strong performer since its launch in late 2004, though it hasn't been an entirely smooth ride. It ranked in the large-growth category's top quartile in four of its first five years of existence, including top-decile finishes in both the bull market of 2006 and the bear market of 2008. However, it badly trailed its category peers in 2007 and muddled along near the category median in 2010, 2011, and early 2012 before bouncing back strongly in the second half of 2012 and in 2013. In 2014 it had another good year, and in 2015 it again beat the category with a 6.18% gain, the best out of the six Primecap funds. It ranked in the category's bottom quartile in the first half of 2016 but rallied strongly in the second half to rank in the top 12% for the year.

To a certain extent, this pattern is driven by the managers' tendency to hold higher-quality growth stocks, which helped the fund in the risk-averse market of 2008. Another significant factor is the managers' contrarian approach and willingness to make sector and industry bets. The fund's big weighting in healthcare stocks, particularly Big Pharma and biotech names, contributed to its poor to middling 2007 and 2010 results, but it helped the fund to big gains in 2013 and 2014.

Such short-term issues say more about the volatility of the market than about this fund, which has not been significantly more volatile than its peers over the longer term.

People Pillar: Positive | David Kathman, CFA, Ph.D. 01/06/2017 
Since its launch in November 2004, this fund has been run by an experienced team of managers with great long-term track records. That team includes Primecap co-founder Theo Kolokotrones, who has comanaged Vanguard Primecap since 1985; Joel Fried, who joined in 1988; Al Mordecai, who joined in 1999; M. Mohsin Ansari, who was named comanager of this and the other Primecap Odyssey funds in April 2012; and James Marchetti, who was named comanager of the Primecap Odyssey funds in December 2014 after nine years as an analyst. Mitch Milias, who comanaged four funds, retired at the end of 2013.

The analyst staff is also experienced, with modest turnover. Once analysts have been there for a while and have shown what they can do, they get to manage a sleeve of money and are given more responsibility if they continue to do good work. Fried, Mordecai, and Kolokotrones recruit analysts at top business schools each year. No new analysts started at the firm in 2015, but three started in the fall of 2016.

These managers have very substantial investments in the funds they manage, strongly aligning their interests with those of shareholders. Three of the five managers have at least $1 million invested in each of the team's six funds. Ansari has $100,000-$500,000 invested in each of the six funds, while Marchetti has $100,000-$500,000 in five of the funds and $500,000 to $1 million in Vanguard Primecap Core VPCCX.

Parent Pillar: Positive | David Kathman, CFA, Ph.D. 07/08/2016 
Primecap Management is a very shareholder-friendly shop. That's no surprise given its ties to two other excellent fund shops: American Funds, where the founders worked before launching Primecap in 1983, and Vanguard, for which they've subadvised Vanguard Primecap since 1984. Like those firms, Primecap has kept expenses very low, and it has avoided launching trendy funds designed to gather assets. Instead, Primecap maintains a long-term focus and sticks to what it does best.

The board overseeing the three Primecap Odyssey funds is small, with only five trustees, but it has done a fine job of looking out for shareholders' interests. For example, it has applied downward pressure on the funds' expense ratios, which have fallen from 1.25% at the funds' launches in late 2004 to less than 0.70% by 2010.

Like the American Funds, Primecap uses a team-based management approach, with each manager (and some senior analysts) separately running sleeves of money. The five listed managers on the Primecap Odyssey funds are an experienced bunch; each has been with Primecap for at least a decade, and they include firm co-founder Theo Kolokotrones. They've aligned their own interests strongly with those of investors: Three of the five managers have more than $1 million of their own money invested in each of the three Primecap Odyssey funds.

Price Pillar: Positive | David Kathman, CFA, Ph.D. 01/06/2017
This fund had an expense ratio of 1.25% when it was launched at the end of 2004--not especially cheap for a no-load stock fund. But that expense ratio shrank rapidly as the fund's asset base grew over the next several years; as of 2016, it stood at 0.65%, putting the fund in the cheapest quartile of no-load large-cap funds. The management fee is a rock-bottom 0.55%, and there are no 12b-1 fees or other extras.

This fund isn't quite as cheap as the now-closed Vanguard Primecap or Vanguard Primecap Core, but it's still among the least-expensive actively managed stock funds in the category that remain open to new investors.

 

David Kathman, CFA, is a senior fund analyst with Morningstar.

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