In a Tough Market, These International Funds Are Earning Their Keep

Owing to its many twists and turns, the year 2011 is shaping up to be a particularly tough one for active managers to navigate. 

We've written about how many active bond managers got caught leaning the wrong way in the late summer's flight to quality. As a result, the typical intermediate-term bond fund was trailing the Barclays Aggregate Bond Index by 1.5 percentage points for the year to date through the end of October--a gaping level of underperformance in bond-land.

Actively managed domestic-equity funds are faring even worse, with the typical large-blend fund lagging the S&P 500 Index by 2.5 percentage points for the year through Oct. 31. The reasons are many, but a key one is that active managers generally underweight the index's biggest constituents, and giant firms like IBM (IBM) and Pfizer (PFE) have been some of the year's best performers.

What's gotten relatively less attention is that active managers have also struggled overseas. The typical fund in the large-blend group is lagging the MSCI EAFE Index by more than 2.5 percentage points for the year to date, and foreign large-value and foreign large-growth funds are also struggling to beat that benchmark, albeit by smaller margins.

As with U.S.-focused funds, there are many reasons for the underperformance of active international managers. But two of the key ones are that active funds' emerging-markets exposure has hurt them (the index has none) and that the prominent large caps in the index have held up better than smaller firms. Active funds' underperformance represents a sharp reversal from years past, when simply overweighting emerging markets and/or buying smaller companies was a ticket to success for many hands-on stock-pickers.

Of course, we would never suggest that you cut a fund loose based on one year's worth of poor performance; nor should you buy something simply because it has performed well in the short term. Nonetheless, we were curious to see exactly what types of international funds had held up well in a year that has featured an earthquake and nuclear crisis in Japan, the European debt crisis, and fears over a slowdown in emerging markets.

We used our  Premium Fund Screener to identify actively managed foreign large-blend, large-growth, and large-value funds that were beating the MSCI for the year to date. That performance criterion, plus a few additional inputs to ensure accessibility to smaller, no-load investors, quickly winnowed down a universe of nearly 400 actively managed large-cap international funds to a svelte list of just 33 names (as of Nov. 1). The funds spanned the value-to-growth spectrum and included several longtime Morningstar favorites, a few of which I've discussed below. To see the complete list or tweak the criteria to suit your own interest, click here.

Artisan International (ARTIX)
The fact that this fund appears near the top of its foreign large-blend peer group--and has handily beaten the MSCI EAFE Index--owes in part to manager Mark Yockey's willingness to admit his mistakes. The fund struggled in relative terms in 2010, in part because Yockey had invested in European banks that went on to fall further still. Recognizing that some of his original assumptions were off the mark, however, he reduced European financials in time to prevent further losses this year. A light touch in emerging markets has also helped the fund hold up relatively well. Thanks to moves like these, the fund has been a standout offering since Morningstar named Yockey its International Manager of the Year in 1998.

Tweedy, Browne Global Value (TBGVX)
Like the Artisan fund, this offering's scant emerging-markets exposure has helped hold its results aloft thus far this year; a dash of U.S.-domiciled firms, which have generally fared better than foreign, has also contributed to this fund's fairly small loss for the year to date. (Management's practice of hedging its foreign-currency exposure into the dollar has helped, too.) The fund's giant stake in consumer-defensive and health-care stocks has also been a plus; big winners have included Philip Morris (PM), Diageo (DEO), and Roche (RHHBY). Such high-quality brand names have usually featured prominently in the portfolio, contributing to the fund's pleasing patter on holding up well in down markets.

USAA International (USIFX)
Although it lands in Morningstar's foreign large-growth category alongside many more-zippy offerings, this fund is actually pretty tame relative to the broad universe of foreign-stock funds. Managers Marcus Smith and Daniel Ling like to see growth in their companies, but they also want it to be sustainable, and they aim to buy their holdings when they're in the dumps. That focus on steady growth has held it in good stead thus far this year, as investors have jettisoned economically sensitive companies in favor of the more defensive names that have long featured prominently in this portfolio. We're comfortable recommending this fund as a core international offering.

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