A little research lets you go far beyond the numbers.
Your conscience should sound a warning if you consider buying a fund simply because you see it on the list of this year's top performers. You can be excused for looking, though. How can you not be curious about funds posting year-to-date returns of more than 100% that don't even have "UltraBull" or "3.5X" in their names?
Because you're going to wonder about these funds anyway, here's a guide to help make those looks worthwhile. With just a little research, you can figure out why a chart-topping fund reaped such gains. More important, you can determine whether the fund is worth considering as a possible addition to your own portfolio or is so inappropriate that it can be struck off your list forever.
Let's examine one offering currently at the top of the rank: Oppenheimer International Small Company
The Story Unfolds
First things first: This fund is closed to new investors. But don't tune out; it's still worth a look. Closed funds often re-open when their asset levels decline, and this one is much smaller than it had been when the fund closed its doors in 2007. However, this is no tiny, obscure fund: It has $1.3 billion in assets and has been around for 12 years.
What catches the eye, though, is the fund's 121% gain for the year to date through Oct. 16. That's the best showing in the foreign small/mid-growth category by far. The second-place fund is up about 70%.
To figure out why, look first at Oppenheimer International Small Company's portfolio. Immediately, several numbers stand out. At the bottom of the page, you'll see that as of its May 2009 portfolio, the fund had a shocking 43% of its assets in Canada. Just behind Canada on the country list are Australia, India, and Norway--all with stakes of 9% or more. You don't have to be an international-investing expert to suspect something unusual is going on.
To confirm how odd this country breakdown is, check out the portfolio of a fund that tracks a broad small-cap international index, Vanguard FTSE All-World ex-US Small-Cap Index
The next step is to figure out what that means. For example, why is the fund in love with Canada? One way to learn is to look for unusual sector weightings to see if there's a connection. If you follow global investing, you may have already guessed one possible link. Three of the unusual weightings in the list of the fund's top-five countries--Norway, Australia, and Canada--all have stock markets tilted heavily toward commodities. Maybe the manager is making sector plays rather than country calls? Sure enough, that same portfolio page reveals that this fund has far more of its assets invested in the energy and materials sectors than most peers. With both of those sectors having soared even higher than most in this year's powerful rally, that alone could help explain the fund's rollicking 2009 performance.
But we should still check to see if our suspicion about the connection between countries and sectors is correct. Click through to the fund's top-25 holdings (that tab sits near the top of the portfolio page). Right at the top, there's a surprise: Most of the Norway stake isn't an oil company after all. The fund's biggest holding, at more than 7% of assets, was Opera Software of Norway. However, the Canada holdings massed just behind Opera at the top of the portfolio are indeed commodity-oriented. And they've skyrocketed this year. Pacific Rubiales Energy
Another factor fueling this fund's 2009 performance: currency gains. The currencies of Australia, Canada, and Norway have jumped much higher against the U.S. dollar this year. They've been substantially stronger even than the euro and yen, which have themselves gained against the greenback. So that, too, has given this fund an advantage over its peers.
Enough about 2009
Now we know why the fund is topping the chart this year. But a fund willing to make such commitments to sectors and countries can fall just as hard if it gets those bets wrong. From looking at the Management page we know that manager Rohit Sah has been in charge for more than five years, so we can check to see how his strategy has fared in the past. How did this daring fund do in the brutal bear market that ended earlier this year? Look at the fund's Performance page, and you'll see the answer is: awful. This fund plunged 66% in 2008, the worst loss in its category.
On the bright side, a look at this fund's history shows that its ability to take full advantage of rallies is not just a 2009 phenomenon. During the long rally for foreign markets and currencies from 2003 through late 2007, the fund was regularly near the top of its category, though its performance was not as mesmerizing as it has been this year.
Lessons Learned--and an Epilogue
From just a few minutes of research, therefore, you can acquire a much fuller picture of this fund than you had merely from ogling its 121% gain. One hopes that this will encourage you to undertake such research on your own. While the reasons for other funds' performance might not be as clear-cut, you can always gain insight by digging into the specifics of funds at the top, the bottom, or the middle of the charts.
Meanwhile, a final look shows the plot here has taken another twist. In his second-quarter commentary, the manager said he planned to broaden the portfolio's country exposure, partly by adding more stocks in Japan. He wasn't kidding. The fund's Web site shows that by the end of August, Japan had zoomed all the way to the number-two spot in the portfolio's country chart, with 17% of assets. Only Canada was ahead of it. If nothing else, this fund is unlikely to become boring anytime soon.
Gregg Wolper is a senior analyst with Morningstar.
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