Christine Benz: Hi, I'm Christine Benz for Morningstar.com. As investors continue to redeem actively managed funds, some good-quality funds are getting thrown out with the bathwater. Joining me to highlight some of them is Russ Kinnel. He's Morningstar's director of manager research.
Russ, thank you so much for being here.
Russ Kinnel: Glad to be here.
Benz: Russ, let's discuss this broad phenomenon that we've seen for several years running where investors are dumping actively managed funds. They're gravitating to index products, whether ETFs or traditional index funds. What's driving that, in your view?
Kinnel: Well, the ETFs have a great value offer. They have low fees and the dependability of passive investing. So there are good reasons for that. A lot of advisors have bought on because they can lower fees for their clients by doing that, and then they can still charge their fee because they've lowered the fee on the other end. So, there are very good reasons for that broad move from active to passive.
Benz: And good tax efficiency as well for the…
Kinnel: That's right. That's right.
Benz: Let's talk about some of the funds that you like that have been in redemptions, but nonetheless that you think are worth sticking with or maybe even worth considering. Let's start with FPA Crescent. This is a Gold-rated fund. Let's talk about its strategy broadly and why you think investors should probably stay the course if they own this fund.
Kinnel: Yeah, this is just a really good fund. Steve Romick is really focused on not losing much money. It's kind of an absolute-return strategy. So, you have a sleeve of equities, you have a sleeve of fixed income that's mostly cash, and just kind of an opportunistic approach of looking for whatever happens to be cheap. And over the long haul, it has delivered market-like returns with less than market-like risk, which is an awfully appealing package.
Benz: Value strategies as a whole have struggled. I'm assuming that that has contributed to the fund's sort of not-so-great-looking returns recently.
Kinnel: Exactly. Its three- and five-year numbers are nothing special, and that's why I think it's getting redemptions. But I think its long-term appeal is good. Presumably value won't be out of favor for the rest of our lives. Hopefully one day it'll come back. And that's why I think this fund still has appeal.
Benz: Let's take a look at First Eagle Global. This is another fund that's been in redemption, also a value-oriented fund, but one that focuses on foreign stocks as well as U.S.
Kinnel: That's right, and also has a kind of absolute-return focus, it's Jean-Marie Eveillard's legacy, but now Matt McLennan and team are running it today, and they've done a really good job of picking stocks alongside. They own cash, they own gold, so defensive on a lot of fronts, but they do such a good job with the stock-picking that they've actually had pretty competitive returns even in this bull market.
Benz: The next fund on the list is a little bit of an outlier in that it's actually a bond fund, Fidelity Municipal Income. First, what do you think is driving redemptions at this fund, and why do you think investors should hang on?
Kinnel: I think in this case, it's really that people soured on munis en masse. In 2018, we saw the whole category lose money, and this fund did too. Its performance has actually been pretty solid, not exciting, but kind of steadily second-quartile performance. And so I think there's a lot of appeal here. Fidelity's emphasis is very much on issue selection. They're not trying to make big macro bets, but they are very good investors, very good technology to help them unearth good values, low fees, kind of a dependable strategy. And so I think it's a really appealing fund for the long-term, even though some investors got out last year.
Benz: I guess another reason that investors may be dumping municipal funds might be just that yields are really low right now, right? So, can we talk about why investors might make room for bonds and not just hold cash in an environment where yields are pretty low across the board?
Kinnel: That's right. Yields are pretty low, but I think it helps to diversify. If you've got a lot of taxable bonds, it's useful to have some muni bonds; they behave differently. But also munis very rarely default. You don't have an equivalent of bankruptcy very often because most municipal issuers can tax their way out of problems. And so, I think it's a nice place to be. Yields won't always be that low. So, I think there's a lot of appeal here. For sure, you're not going to get huge returns from muni bond funds today.
Benz: Does your research suggest that there might be a contrarian benefit to adding a fund that other investors are selling? I know you've looked at this in your annual Buy the Unloved study, but how about on a per-fund basis? Is there any benefit?
Kinnel: Not necessarily. In some cases it's a negative if you have a less-liquid area, so like a small-cap fund or a high-yield fund, it's actually a negative because they're forced to sell and that might--they may get hurt by the prices on the way down.
Kinnel: So sometimes it's a negative. In these cases, I don't think it's really a negative because you have two conservative allocation funds with a lot of cash, and a muni fund, of course, it's pretty easy to sell high-quality munis. So, I'd say generally not a big positive, but I think from a contrarian standpoint, it's a signal these securities may be undervalued, these strategies may be undervalued. So, I think there is some positives there, but not necessarily on an individual fund basis.
Benz: And you mentioned one of the negatives--if the managers having to unload illiquid securities, that could be a potential headwind to future performance. Tax consequences could also come into play for the equity funds that we've talked about. Let's just talk about that really quickly.
Kinnel: That's right. If you have say a fully invested equity fund, and it's getting significant redemptions, and the manager really is forced to sell and they're even forced to sell often positions held at a big gain. And so, there is a significant link between big outflows and big capital gains. So, especially at this time of year, be careful about that. You might want to wait until after distributions are made, which is typically the last week of the year.
Benz: Russ, interesting topic. Thank you so much for being here to discuss it with us.
Kinnel: You're welcome.
Benz: Thanks for watching. I'm Christine Benz from Morningstar.com.