Christine Benz: Hi, I'm Christine Benz for Morningstar.com. In the latest issue of Morningstar FundInvestor, editor Russ Kinnel highlights 28 terrific funds. He is here today to discuss them.
Russ, thank you so much for being here.
Russ Kinnel: Glad to be here.
Benz: Russ, you annually run this screen in FundInvestor where you're looking for funds that you think will be good performers in the future. Let's talk about some of the things that you screen for.
Russ Kinnel: The idea is with over 8,000 funds out there it could really be demanding, but the key is to raise the bar on important screens, not less important. So, I look for funds with cheapest quintile expense; manager investment over $1 million dollars; outperformances versus benchmark over the managers' tenure; and they have to been there at least five years; risk ratings, not high risk because higher-risk funds tend to throw people off. So, really kind of focusing on some really key tests, and it narrows the list a lot, but you still come up with some very good funds at the end of the process.
Benz: The number of funds that make it through these screens tends to vary from year to year as one would expect. This year, it's a relatively smaller list compared to years prior where you've had as many as 40-plus funds; you've got just 28 funds. And you noted in your article that one of the things that knocked some otherwise good funds out is this risk screen. First, let's talk about Morningstar Risk rating and which funds--some otherwise worthy funds--let's talk about some ones that ended up on the cutting-room floor because of that screen.
Kinnel: The Morningstar Risk rating is essentially a volatility measure with emphasis on downside, so to have a high risk, it's high relative to your category peer, so that means you are more volatile than most of your category peers. And right now we're about obviously 10 years into a bull market and so some fully invested equity funds can show up at the high-risk end, though sometimes it's the case that they are not really much riskier than their typical peer. And so we've lost some good funds that I think are very good, but don't make that test.
Benz: I know Primecap Odyssey Aggressive Growth was one. Any other funds that you like that had been on the list in years prior that got bumped due to this risk rating?
Kinnel: Dodge & Cox International and some other Dodge & Cox funds did not make it, and they've gotten bounced in the past for that. It's little surprising because we tend to think it's kind of conservative, though the record shows that they lost a lot in '08, so it's not like they are perfect but it's a little surprising. But they are fully invested, they do have a value tilt, which occasionally looks bad; if you are kind of more of a pure value, you sometimes get left out in this growth-dominated market. So, I still like the funds, but some of them didn't make the test.
Benz: Let's talk about T. Rowe Price, that was one thing you called out in the article. Just two T. Rowe Price funds made the list. It's a firm we like a lot, but the two T. Rowe Price funds that made the list are closed. So, what's going on at T. Rowe Price causing their representation to shrink here?
Kinnel: It's funny because we've actually upgraded a number of T. Rowe funds over the last year. But what's happening here is mostly it's about the fee test. I said has to be cheapest quintile, and that's pretty high bar. And over the last few years, we've had a lot more passive entrants in equity, and a lot of them are cutting their fees dramatically. There are also some unusual share classes that essentially you can only buy in one place or another, and then the fees are added on other spot, but that means you have some very low-appearing-cost funds. And a lot of T. Rowe funds are right at that quintile barrier, and so some goods ones don't make the test.
Benz: T. Rowe Price Mid-Cap Growth and T. Rowe Price Mid-Cap Value were the two closed funds?
Kinnel: Right, they're closed funds, they didn't make the test, they are great funds but obviously you can't buy them.
Benz: Let's talk about Baird because I think that's a firm that may be less well-known to our viewers. Made a very strong showing on this list. A firm based up in Milwaukee. Let's talk about what you and the team like about Baird.
Kinnel: They are low-cost funds. It's a bond-dominant, though we had one equity fund that made it but two bond funds, but really their M.O. was that they hew to the conservative side, a lot of intermediate bond funds take risks way beyond what the benchmark would suggest. They take more credit risks; they might take foreign-currency risks. Baird is much more restrained in those areas, and it works because they only charge 30 basis points to get in. So that makes it a lot easier for them to compete with, say, an index fund in that space or some other very low-cost funds, but they've done a very good job, have a very strong team, tremendous stability at the firm. So, really a lot to like and we've upgraded their funds--two of their bond funds--to Gold.
Benz: Finally let's talk about Vanguard coming out very strong on this list--probably not a big shocker, many funds easily cleared your fee hurdle certainly--but nine separate funds made the list. Let's talk about some of the highlights there.
Kinnel: One obvious theme there is some of the funds are either subadvised by Primecap or Wellington. These are two outstanding firms that Vanguard has very long-term relationships with. You take really good subadvisors, put a really cheap expense ratio, and you have a very attractive fund and, of course, meet my test that you have to be low-cost, you have to have outperformed your benchmark over the long haul. So, interestingly, Vanguard makes a very good case for active management with these funds.
Benz: Russ, interesting list. Thank you so much for being here to share some of the highlights.
Kinnel: You're welcome.
Benz: Thanks for watching. I'm Christine Benz for Morningstar.com.