Our studies show it pays to hold funds in unpopular categories.
Each year, we look at the equity categories that have experienced the greatest outflows and inflows to gauge which areas of the market are unloved or overheated. The idea is to use fund flows as a contrarian indicator, buying into the categories that investors are fleeing while trimming exposure to those that are popular. We have tracked this strategy since the early 1990s, and research indicates that holding funds in the unpopular categories for at least three to five years is an effective approach that yields strong results.
1 The Most Loved
The most popular equity categories in 2012 were diversified emerging markets (inflows of $23.4 billion), foreign large value (inflows of $4.6 billion), and real estate (inflows of $3.8 billion). Those looking across asset classes might want to be cautious about sending new money to intermediate-term bond (inflows of $112.3 billion), short-term bond (inflows of $37.6 billion), and high-yield bond (inflows of $23.4 billion), particularly as interest rates have nowhere to go but up.
2 The Most Unloved
The most unloved equity categories are also the most unpopular overall: large growth (outflows of $39.5 billion), large value (outflows of $15.9 billion), and large blend (outflows of $14.8 billion). These categories have seen outflows despite posting double-digit gains for the year to date through mid-December. The money leaving these categories reflects a broader trend of investors fleeing equity funds while piling into fixed-income offerings and passive exchange-traded funds. Some of these categories have endured outflows for a while. Large growth has had annual net outflows since 2004, large value since 2007, and large blend since 2010.
3 Funds in the Unloved
Here are some fund picks in unloved categories that could serve as good long-term holdings. Harbor Capital Appreciation
Investors looking for higher growth might instead opt for Primecap Odyssey Growth POGRX or Primecap Odyssey Stock
Vanguard Growth Index
On the large-value side, Sound Shore SSHFX is a good choice. Despite a middling three-year performance, it has generated an enviable record under its management team, which has been in place for more than 25 years. Dodge & Cox Stock
Large-blend investors might opt for Gold-rated FMI Large Cap
Vanguard Dividend Growth