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The Biggest Mutual Fund Surprises of 2012

Some funds had dramatic comebacks, while others remained cellar-dwellers, writes Morningstar's Russ Kinnel.

Russel Kinnel, 12/31/2012

We all saw this coming today, right?  A huge rally in Europe, robust gains in U.S. stocks, and strong returns in bonds? Ha.

Some individual fund performances were surprising, too. Let’s take a look at some of the good and bad surprises of the year. I’ll skip over the funds where managers are nominated for manager of the year as we already covered that ground. All the 2012 returns you see quoted are through Dec. 28.

From Worst to First
Buying or selling based on the results of one year is a bad idea. Fairholme FAIRX and Schneider Small Cap Value SCMVX are great illustrations of that. They had great returns in 2010, appalling losses in 2011, and awesome gains again in 2012. Focused funds tend to have big swings because a few stocks can play such a big role in returns. When they are focused deep-value funds like these two, those swings are magnified.

Financials are a key part of the story for both as the sector rallied smartly. Fairholme has a 33.6% gain for the year to date and Schneider has a 34.4% gain. This is not to suggest these two are identical twins. Fairholme held up wonderfully in 2008 thanks to Bruce Berkowitz’ wariness of banks and fondness of cash, while Schneider had a big bet on some of the shakiest mortgage companies--and you can guess how that went.

From Worst to Worst
I’m so old I can remember when momentum funds were really hot and cutting-edge. Man, does that seem like a long time ago. For starters, momentum funds really struggled in the bear markets of 2000-02 and 2008. They got hurt in the first sell-off because that one was about multiple compression. They tanked in 2008, because the mortgage crisis moved faster than individual company numbers and their momentum models were too slow to keep up. 

To make matters worse, momentum funds got caught flat-footed in the debt crisis in 2011 and--unlike Fairholme and Schneider Value--they tripped up again in 2012.  For example, Turner Midcap Growth TMGFX lost 8.4% in 2011 but gained only 3.8% in 2012. Brandywine Blue BLUEX lost 10.3% in 2011 and gained a mere 5.1% in 2012, giving it three bottom-decile performances in the past four years. There were a few exceptions, though, such as AQR Momentum AMOMX, which produced a nice 15.2% gain this year.

A Good Year for Unpopular Funds
Fairholme wasn’t the only unpopular fund that had a strong year. The three most heavily redeemed funds in 2011 all produced top-quartile returns. American Funds Growth Fund of America AGTHX was hit with $33 billion in outflows, but it returned 18.6% in 2012.  Amazon.com AMZN, Apple AAPL, and Gilead Sciences GILD led the fund to a strong year.

American Funds Capital World G/I A CWGIX shed $9 billion to outflows in 2011 but it gained 17.9% this year, as names like Bayer AG BAYRY and Home Depot HD helped it to a good year.

Fidelity Diversified International FDIVX rebounded from a sluggish stretch as some of Bill Bower’s European stocks like Sanofi SNY and Anheuser-Busch Inbev BUD were big winners. Not bad for a fund that shed $7.7 billion in assets in 2011.

New Manager, Big Returns
You wouldn’t think that a year when a fund changes managers would be a great time to invest. But Third Avenue Value TAVFX, which had a fairly smooth manager transition, had a good year in 2012, as did Putnam Equity Income PEYAX, which had a jarring manager change.  

Third Avenue had long prepared for Marty Whitman to step down from management. Ian Lapey became a comanager in 2009 at Third Avenue Value after eight years at the firm.  That’s not to say you couldn’t tell there had been a change. After Whitman stepped back on March 1, 2012, Lapey quickly cut down the fund’s huge bet on Hong Kong real estate in order to reel in risk a bit--not because he didn’t like the stocks. In fact, the Hong Kong names had a strong year as did some of the fund’s financials. The fund’s 26.3% gain for 2012 marks a welcome rebound from a poor 2011.

At Putnam Equity Income, Bart Geer left to join BlackRock, and the firm handed the fund to Darren Jaroch and Walter Scully in late August. The two are Putnam veterans who aim to boost the fund’s yield and focus further up the market-cap ladder. The fund has finished the year nicely, though I won’t attempt to parse the credit for a strong 2012. Some of its big winners, such as Marathon Petroleum MPC and Comcast CMCSA, have been in the portfolio for a while.

A Bit of Divergence at Primecap
Primecap Odyssey Aggressive Growth POAGX focuses on small- and mid-cap stocks, while the other Primecap funds favor large caps, but it still may come as a surprise to some that it had a great 2012 while the rest of the lineup was middling, given that the Primecap funds share a common management team and growth strategy.

Primecap Aggressive Growth has scored big gains through a number of small health-care and biotech stocks, such as Pharmacyclics PCYC, which tripled this year. As a result, it's up 19.3% on the year while Vanguard Primecap Core VPCCX gained 12.9%. While Core had some nice health-care names like Amgen and Biogen, it didn’t have any triples, and it also had some more sluggish giants like Boeing BA and Texas Instruments TXN.

Russel Kinnel is Morningstar's director of mutual fund research. He is also the editor of Morningstar FundInvestor, a monthly newsletter dedicated to helping investors pick great mutual funds, build winning portfolios, and monitor their funds for greater gains. (Click here for a free issue). Mr. Kinnel would like to hear from readers, but no financial-planning questions, please. Follow Russel on Twitter: @russkinnel.
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