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Kinnel's Favorite Funds From T. Rowe Price

Russel Kinnel
Christine Benz

Christine Benz: Hi, I'm Christine Benz for Morningstar.com. T. Rowe Price has been crowded out of the spotlight in recent years as investors have flocked to passively managed products. But Morningstar's director of manager research, Russ Kinnel, still thinks the firm has a lot to offer. He is here with me today to discuss some of his favorite T. Rowe Price funds.

Russ, thanks for being here.

Russ Kinnel: Good to be here.

Benz: Russ, let's talk about T. Rowe Price. As I mentioned, the asset flows haven't been there as many investors have been gravitating to index products. But let's talk about what's been going on behind the scenes at T. Rowe Price. There have been some notable manager departures as well as executive departures as well, correct?

Kinnel: That's right. Brian Rogers, their leader, has retired. As we've discussed before, a number of their managers are near retirement age or not too far from when people at T. Rowe typically retire. We've seen a couple more retire. There is a transition going on. I was visiting them a year ago, and I was really happy to see that they have really developed depth behind those managers. They have really improved their analyst staff. I feel pretty good about T. Rowe today.

Benz: It historically has been a firm that we have felt has a really good culture internally and also a shareholder-friendly culture?

Kinnel: Yeah, very shareholder-friendly. They are straightforward. You get exactly what they tell you they are going to deliver. The costs are pretty reasonable. When there is a manager change, they handle it really well; that is, they typically will have a transition of a couple of years as the new manager learns the ropes. Even when that new manager takes over, they tend to keep the strategy very similar. It's pretty easy to buy one of their funds and hold on.

Benz: Let's talk about any problem spots or areas for concern when you think about T. Rowe as a firm. You mentioned potential succession strategies. They have done a good job historically hanging on to managers, but we may see some more veteran managers depart before it's all over. Any other things that are on your radar?

Kinnel: It's really hard to come up with the weaknesses for T. Rowe. Their international equity is maybe not quite as good as domestic. A lot of their domestic funds we have rated Silver or Gold, whereas their international tend to be more Bronze-rated.

Benz: Let's get into some of your favorite T. Rowe Price funds. This is not an exhaustive, inclusive list. There are other funds you like, but you picked out a few that you think are worthy of investor attention. One is T. Rowe Price QM U.S. Small Growth. Let's talk about what that QM stands for.

Kinnel: It's for quantitative. This is quant strategy. They have three traditional,  fundamental actively managed small-cap funds, but those tend to be closed and have a lot of money in them. It makes sense when you have that situation to come up with a quant fund because the quant fund can generate its own research and not crowd the same stocks that the other funds are owning.

Benz: It can generally handle a little more capacity than the actively managed funds can do. Let's talk about why in particular you think this is a good pick.

Kinnel: Some quant funds are kind of black boxes and it's kind of hard to understand. But this one is kind of straightforward fundamentals. It's things like cash flow yields and earnings quality and fairly straightforward things. A little bit of momentum, but it's a pretty small component. They just do a really nice job, very diversified, as you say. That helps them to have a lot of capacity because they have got a lot of names. It's about 300 names with none over 1% of assets, so a very diffuse portfolio. Really steady performer under the manager, Sudhir Nanda. Just kind of consistently performing in that second quartile which is a very T. Rowe Price-like thing to do.

Benz: That's what I was thinking. Right. Let's look at T. Rowe Price Real Estate. This has long been one of our favorite real estate mutual funds. It's Gold-rated. The Small-Cap Growth fund you just talked about is Gold-rated as well. Let's talk about Real Estate. It's got a veteran manager. What else do you like about it?

Kinnel: We don't talk about a lot of sector funds here in part because they are hard use and manager turnover. Here you've got David Lee with 20 years on the fund, consistent investor. Just done a really good job of picking the right real estate names, very straightforward, like we mentioned at the beginning, buys U.S. REITs, not a lot of surprises in that portfolio. Just a consistent performer, and you can really depend on what you are buying is going to be what you are going to get five years from now.

Benz: That's kind of a hallmark of T. Rowe Price in general that if you buy the mid-growth fund, it's going to have most of its assets in that mid-growth square of the style box.

Kinnel: That's right. They really care about style, and they also will try and keep their sector managers around. It's not just a stepping stone. It's a really attractive place to find sector funds.

Benz: Your last idea is a bond fund, the last fund that you like. This is T. Rowe Price Tax-Free High Yield. Let's talk about why you like it. It, too, has a veteran manager. Then I also am hoping you can spend a little bit of time talking about how such a fund can be used in the context of a broader portfolio.

Kinnel: It's a high-yield muni fund, and obviously that means you are taking on some risk. High-yield munis can be kind of treacherous every once in a while, things go south with them and the more aggressive ones have gotten caught up in things like Puerto Rico. This fund has largely avoided those issues. Jim Murphy has been running the fund since 2001. So, again, you've got a really experienced manager. T. Rowe always uses the cautious side, or almost always. I like that. Diversified is always a good thing to do in a bond fund. You like the T. Rowe fund for this kind of strategy because most investors don't really like to lose money in their bond fund. If you've got an aggressive strategy in high-yield munis, it's nice to have one that at least doesn't go too far and is aware of the risks and doesn't take any big risks for you.

Benz: But nonetheless, this is not the type of fund that I would want to own as my whole muni fund? I should have high-quality exposure and maybe use this around the margins?

Kinnel: Exactly. This is a smaller part of a portfolio. Because you do have credit risk munis are kind of a quirky area. I would not want to go whole hog into a high-yield muni. They are naturally sensitive to credit issues. If you go back to '08, you will see there were some significant losses in this fund and pretty much every high-yield muni fund. You don't want to make it a core holding. I think it is more of a role player.

Benz: Russ, thank you so much for being here to discuss your picks today.

Kinnel: You're welcome.

Benz: Thanks for watching. I'm Christine Benz for Morningstar.com.