Will Education Stocks Test These Funds?

Among the many ripple effects of the subprime-mortgage meltdown has been a tightening of credit markets in general, making it tougher for many people and institutions to borrow money. As the credit crunch has worsened, its effects have been spreading to some areas previously considered safe. For example, a seize-up in the market for auction-rate securities has burned many institutions that thought that they were being cautious, and the shocking collapse of  Bear Stearns  two weeks ago was ultimately a result (if indirectly) of the tight credit environment. Of course, the housing market continues to struggle, and many makers of big-ticket consumer items that are typically financed, such as automobiles, are facing weak sales and falling stock prices.

Fears of a similar slowdown have recently hit another industry that relies on its customers being able to borrow money--for-profit education. Firms such as  Corinthian Colleges  and  Apollo Group , parent of the University of Phoenix, charge big money for tuition (though not necessarily more than traditional private colleges), and most of their students have to borrow some or all of the cost. Such companies have traditionally done well in weak economies as more people go back to school, and indeed, most of these stocks posted big gains in the first 10 months of last year. Since November, however, most of them have declined significantly amid a worsening environment for student loans, especially from the private lenders on which many of their students rely. Firms with the most exposure to private loans have been hardest-hit, but just about everybody has suffered. Apollo Group, with relatively light private-loan exposure, was up 80% in 2007 but was down 20% this year through March 27, and it fell an additional 27% on March 28 after reporting disappointing earnings. Corinthian Colleges gained 13% in 2007 but fell 49% this year through March 27, while Capella Education  soared 170% last year but fell 10% this year through March 27; both fell an additional 8% to 9% on March 28.

What effect has this reversal in education stocks had on mutual funds? To find out, we looked at the 10 funds with the largest percentage of their portfolio in this industry, with the results shown in the following table. The table shows each fund's category, size, percentage of portfolio in education stocks, and percentile rank within its category in 2007 and for year-to-date 2008 as of March 25:

Funds with Big Education Bets
Fund	Category	Size ($ Mil)	Education (%)	% Rank in 2007	% Rank YTD*
Westport Select Cap	Mid-Blend	903.7	12.29	43	70
Fidelity Select Leisure (FDLSX)	Large Growth	225.9	10.04	90	8
Lateef (LIMAX)	Large Blend	96.5	7.84	-	62
Buffalo Small Cap (BUFSX)	Small Growth	1,674.2	7.16	84	38
Buffalo Micro Cap (BUFOX)	Small Growth	29.2	5.87	99	71
Transamerica Premier Focus	Mid-Growth	78.4	5.80	26	90
Fidelity Advisor Mid Cap (FMCDX)	Mid-Growth	6,573.3	5.80	76	71
Goldman Sachs Struct. US Eq	Large Blend	26.9	5.25	99	12
Columbia Acorn Select	Mid-Growth	2,763.2	5.14	78	45
MassMutual Select Mid-Cap Val (MLUAX)	Mid-Value	175.1	4.88	91	77
* As of 3-25-2008.

This is a fairly diverse group of funds, from six different categories. The top fund on the list,  Westport Select Cap , has  DeVry (DV) and  ITT Educational Services (ESI) as its second- and third-largest holdings; the next fund,  Fidelity Select Leisure (FDLSX), has two education stocks (Apollo Group and DeVry) among its top 10 holdings, plus smaller positions in three others. Lateef (LIMAX), in contrast, gets all its exposure from Apollo Group, which is the fund's largest holding.

It's interesting to note that these stocks don't seem to have helped the funds all that much last year or hurt them very much this year. Despite the big gains of many education stocks in 2007, only two of these 10 funds beat their categories last year, and four finished in their category's bottom decile. As a group, they've actually done better this year, despite the poor performance of education stocks, with seven of the funds having a better category ranking than last year. This is not particularly surprising, given that many of these funds are heavy in relatively cautious sectors such as consumer services and health care, which have held up fairly well in this year's down market.

Of course, education stocks are not a monolithic group, and a lot depends on which particular stocks a fund holds. Of those for which we currently have a fair value, Apollo Group now has a 5-star Morningstar Rating after its big March 28 decline; DeVry and  Strayer Education (STRA) are approaching 5-star territory after similar declines;  New Oriental Education & Technology (EDU) has 3 stars; and  Leapfrog Enterprises  has 1 star. Several of those hardest hit by the recent troubles, including ITT Educational Services,  Career Education (CECO), and Corinthian Colleges, are under review. If any of these look particularly interesting, it's possible to find out which funds have the biggest exposure to a given stock by typing the stock's ticker into Morningstar.com, clicking on Insider Trading on the left-side tabs, and clicking on Concentrated Fund Owners on the top tabs. For example, here are the funds with the biggest percentage of their portfolio in Apollo Group, and here are those with the biggest stakes in ITT Educational Services.