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American Funds Lack Luster In Q3: Funds That Saved Face

American Funds, proclaimed as one of the largest active fund managers, perhaps wants to forget its third quarter performance – the sooner the better. The handful of flimsy gainers compared to the horde of mutual funds that ended in the red painted a dismal picture of the quarter. None of the American Funds mutual funds could even reach a 2% gain in the third quarter, whereas 371 funds ended with at least a 5% loss. As for the broader markets, the key benchmarks suffered their worst loss in four years. In the third quarter, the Dow, the S&P 500 and Nasdaq declined 7.6%, 7% and 7.4%, respectively. In fact, calling the third quarter a bloodbath will not be far from the truth. Just 17% of the mutual funds managed to finish in the green in the third quarter. This was a slump from 41% in the second quarter, which was also a sharp fall from 87% of the funds that ended in the positive territory in the first quarter. However to justify American Funds’ dismal performance in relation with the broader markets will only be partially right. American Funds even failed to beat the modest-to-poor performances from key peers like Franklin Templeton, Fidelity, Vanguard or T. Rowe Price mutual funds. American Funds in Q3: Comparative Study As mentioned, American Funds failed to beat its major peers. The best gain from this fund family was a meager 1.7% scored by the American Funds U.S. Government Securities Fund® Retirement (MUTF: RGVFX ) . This 1.7% gain was not only far short of the best gains achieved by key peers, but was also somewhere around the average gains that mutual funds from fund families like Franklin Templeton, Fidelity, Vanguard, BlackRock or T. Rowe Price scored. In a quarter ravaged by headwinds, mutual funds from the Vanguard Group gave a decent performance. Its best gain hit 8.4%, achieved by the Vanguard Extended Duration Treasury Index Fund Inst (MUTF: VEDTX ) . Separately, Fidelity’s top-gainer, the Fidelity Spartan® Long Term Trust Bond Index Fund (MUTF: FLBAX ) , could post only 5.5% return. In fact, the only other fund that managed a 5% plus gain from this lineup is Investor class fund, the Fidelity Spartan® Long Term Trust Bond Index Fund Inv (MUTF: FLBIX ) . For T. Rowe Price, the T. Rowe Price U.S. Treasury Long Term Fund No Load (MUTF: PRULX ) gained 5.1% and was the best performer. However, it was the only fund in the 180 T. Rowe Price assortment we studied, that posted a 5% plus return. Franklin Templeton could put up a modest show in the tough third quarter. The Franklin Real Estate Securities Fund Retirement (MUTF: FSERX ) was the best gainer among the Franklin Templeton mutual funds, which gained only 3.4%. BlackRock’s best performer was the BlackRock Real Estate Securities Fund Inst (MUTF: BIREX ) , which gained 2.4%. The average gain from mutual funds that finished in the green for Franklin Templeton, Fidelity, Vanguard and T. Rowe Price were 1.2%, 1.2%, 1.9% and 1.3%, respectively. Of the 629 American Funds mutual funds we studied, only 135 funds finished in the green with paltry gains. The average gain for these 135 funds was just over 1%. None of the funds could post above 2% return and 68 out of these 135 funds finished with sub 1% gain. Meanwhile, 493 American Funds mutual funds finished in the red. The average loss for these 493 funds was 6.6%. While 371 funds lost over 5%, 60 funds lost at least 10%. The biggest loser in the third quarter was the American Funds New World Fund® C (MUTF: CNWCX ) , which slumped 12.4%. In comparison, of the 626 funds we studied in the second quarter, 232 funds had finished in the green while 2 funds had break-even returns. The average gain for these 232 funds was 1.41%. This compared favorably to the average loss of -0.84% for the 392 funds in negative territory. (Note: The numbers include same funds of different classes) Top 15 American Funds Mutual Funds in Q3 Below we present the top 15 American Funds mutual fund performers of Q3 2015: Fund Name Objective Description Q3 Total Return Q3 % Rank vs Obj YTD Total Return % Yield Beta vs S&P 500 Load American Funds US Govt Sec R5 Government 1.72 5 2.43 1.39 -0.03 N American Funds High Inc Muni Bnd F2 Muni Natl 1.67 14 2.34 4.07 0.05 N American Funds Tax Exempt of CA A Muni CA 1.66 41 1.84 3.23 -0.01 Y American Funds US Govt Sec A Government 1.64 7 2.19 1.1 -0.03 Y American Funds High Inc Muni Bnd A Muni Natl 1.63 16 2.22 3.91 0.05 Y American Funds Mortgage A Govt-Mtg 1.56 3 2.08 1.04 -0.01 Y American Funds T/E Bd of America A Muni Natl 1.44 31 1.58 3.13 Y American Funds Tax Exempt of VA A Muni State 1.4 42 1.13 2.94 0.01 Y American Funds Tax Exempt Of NY A Muni NY 1.34 49 1.26 2.72 0.02 Y American Funds Tax Exempt of MD A Muni State 1.24 61 1.02 3.03 0.08 Y American Funds Tax-Exempt Prsrv A Muni Natl 0.99 67 0.98 2.29 Y American Funds Bnd Fd of Amer A Corp-Inv 0.96 9 0.85 1.85 -0.01 Y American Funds Bnd Fd of Amer 529A Corp-Inv 0.93 10 0.78 1.76 -0.01 Y American Funds Ltd Term T/E Bond A Muni Natl 0.91 70 0.95 2.3 -0.01 Y American Funds Intm Bd Fd Amer R5 Corp-Inv 0.9 12 1.79 1.45 -0.03 N Note: The list excludes the same funds with different classes, and institutional funds have been excluded. Funds having minimum initial investment above $5000 have been excluded. Q3 % Rank vs. Objective* equals the percentage the fund falls among its peers. Here, 1 being the best and 99 being the worst. Morningstar data showed many sub Municipal fund categories, such as Muni California Long, Muni Pennsylvania and Muni New York Long, featured in the top performers’ list for the third quarter. However, the gains were modest, with Muni California Long giving the best performance with a 1.7% gain in the quarter. Long Government funds category was the second-best gainer in the third quarter. According to Morningstar, Bear Market funds category gained 13.1% and Long Government was next in line with gains of 4.3%. So we see that among the American Funds’ best 15 gainers, the Government category is the top gainer. However, Municipal Bond funds dominate the top 15 gainers’ list. Among the Municipal funds, the American High-Income Municipal Bond Fund® (MUTF: AHMFX ) , the American Funds Tax-Exempt Fund California® A (MUTF: TAFTX ) and the American High-Income Municipal Bond Fund® A (MUTF: AMHIX ) sports a Zacks Mutual Fund Rank #1 (Strong Buy). Meanwhile, the American Funds Tax Exempt Bond Fund® A (MUTF: AFTEX ) holds a Zacks Mutual Fund Rank #2 (Buy). Municipal funds the American Funds Tax Exempt Virginia Fund A (MUTF: TFVAX ) and the American Funds Tax-Exempt Fund of New York® A (MUTF: NYAAX ) carry a Zacks Mutual Fund Rank #3 (Hold). However, while the American Funds Tax Exempt Maryland Fund A (MUTF: TMMDX ) and the American Funds Tax-Exempt Preservation Portfolio A (MUTF: TEPAX ) carries a Zacks Mutual Fund Rank #4 (Sell), The American Funds Limited Term Tax-Exempt Bond Fund® A (MUTF: LTEBX ) has a Zacks Mutual Fund Rank #5 (Strong Sell). Coming to the Government funds, top gainer the American Funds US Govt Sec R5 and fifth-placed the American Funds U.S. Government Securities Fund® A (MUTF: AMUSX ) carry a Zacks Mutual Fund Rank #2. However, Government-Mortgage fund the American Funds Mortgage Fund® A (MUTF: MFAAX ) holds a Sell rating. Original Post

VUIAX: This Utility Mutual Fund Is Keeping The Lights On

Summary VUIAX has a respectably low correlation to SPY, but the correlation and relative volatility have changed materially over time. The expense ratio is great for an investor wanting some cheap diversification throughout the utility sector. I expect the Federal Reserve to push hard for raising rates in December, but I don’t think rate increases can be sustained. Utilities are sensitive to interest rates, so an increase in rates would trigger lower prices and a buying opportunity. In my past analysis on other utility mutual funds and ETFs I have found they can offer some nice benefits to the portfolio from lower levels of volatility and lower levels of correlation to the S&P 500. However, finding a good utility mutual fund can be a problem because a high expense ratio can destroy a fund that would otherwise be very attractive. Since the Vanguard Utilities Index Fund (MUTF: VUIAX ) has an expense ratio of only .12%, I’m feeling pretty optimistic going into this one. Does VUIAX provide diversification benefits to a portfolio? Each investor may hold a different portfolio, but I use the SPDR S&P 500 Trust ETF (NYSEARCA: SPY ) as the basis for my analysis. When I ran a regression on SPY and VUIAX, I found a correlation of 78%. That isn’t very low, but it is not high enough to be problematic. I found the annualized volatility for VUIAX was 18% since February of 2004, which was slightly lower than the overall market at 19.4% during that time span. However, if an investor focuses only on the last couple of years the resulting volatility levels are significantly less favorable for VUIAX. Over the last 24 months the annualized volatility on VUIAX was 14.8% and it was only 13.1% on SPY. On the other hand, during those 24 months the correlation was only around 53% rather than the longer term average of 78%. Expense Ratio The mutual fund is posting .12% for an expense ratio. What else is there to say? That is a solid expense ratio. Largest Holdings The diversification within the mutual fund is pretty weak. For a very long term holder it might make sense to replicate the mutual fund by just buying the underlying securities and taking higher trading costs to eliminate the expense ratio. However, an expense ratio of only .12% would be difficult to beat without a fairly long time horizon or a large volume of commission free trades in the account. (click to enlarge) The major holdings here are the same ones I would expect to see. Duke Energy Corporation (NYSE: DUK ) is a fairly huge utility company and frequently at the top of the list for utility mutual funds. All around this appears to be a reasonable portfolio for an investor that wants to get more utility companies into their portfolio without having to buy the companies individually. Why Utilities Investors may be wondering why they should look to raise the utility allocation when the Federal Reserve is talking about raising rates. Since utilities tend to have some material correlation to corporate bond funds, it would seem like an allocation to utilities would be dangerous. When it comes to the Federal Reserve, my stance is that they can’t raise rates as rapidly as they would like to raise them. Because I expect them to substantially underperform their projected trajectory, I see the December meeting as potentially providing a great entry point for equity REITs, utilities, and bonds. I see the potential for weaker prices as being indicative of solid entry points, it simply requires having the conviction to pull the trigger right when everyone else is bracing for higher rates. Conclusion Utility companies can act as a form of income investment because of their strong dividend yields. Unlike buying into a bond portfolio investors can expect that the level of dividends will be increasing over time which makes up for the portfolio having more risk than a simple bond portfolio. When it comes down to designing an ideal portfolio, I think there is a viable argument for running a higher allocation to the utility sector as a way to improve diversification throughout the portfolio. The biggest weakness for using utility companies as a way to diversify the portfolio is that the diversification benefits of the utility allocation are not as strong as the benefits from simply using a diversified bond portfolio since bonds have historically shown materially lower correlations with the S&P 500. If an investor already has a large allocation to bonds, the benefits of adding VUIAX will not be as strong. On the other hand, if an investor places a high value on getting qualified dividends as a source of income, it would materially increase the relative attractiveness of VUIAX. In those cases, it would make sense to use a stronger allocation to VUIAX to reduce portfolio risk.

SCHX: Low Fees Just Got Lower And The Portfolio Is Still Great

Summary SCHX is a leader among low fee ETFs. This balanced portfolio works great as a core holding. The fund holds most of the major companies in the domestic market, so diversification should focus on bonds, international exposure, and REITs. One of my favorite funds that is not currently in my portfolio is the U.S. Large-Cap ETF (NYSEARCA: SCHX ). This fund offers investors exposure to the domestic equity market and has a rock bottom exposure of .04%. Or at least, I used to think .04% was the lowest investors would find on domestic equity. It turns out Schwab is in a pricing battle with BlackRock’s (NYSE: BLK ) iShares products and will be lowering the expense ratio from .04% to .03%. What does SCHX do? SCHX attempts to track the total return of the Dow Jones U.S. Large-Cap Total Stock Market Index. At least 90% of funds are invested in companies that are part of the index. SCHX falls under the category of “Large Blend.” Largest Holdings The portfolio has solid diversification. The SPDR S&P 500 Trust ETF ( SPY) is holding a very similar portfolio but with a slightly larger allocation to the top companies, such as 3.55% in Apple (NASDAQ: AAPL ). However, the additional diversification for SCHX can be partially set off by some of the companies near the top being less volatile or by the ETF having less trading volume. (click to enlarge) Perhaps the question should be why investors would choose options with higher expense ratios when the holdings in SCHX make so much sense. The huge holdings here are established dividend growth champions, which the exception of AAPL and Facebook (NASDAQ: FB ), however I suspect that within 10 years those companies will have a very solid history of raising their dividends. Sector The one thing that concerns me about the way the fund is set up is the relatively light weights given to utilities and to consumer staples. I feel that makes this portfolio a little more aggressive than I prefer to be with the core of my portfolio. (click to enlarge) The reason these sectors are so appealing to me has everything to do with where we are in the macroeconomic sector. We’ve been in a prolonged bull market for quite a while and the valuations have started to get fairly rich. The Federal Reserve has given clear signs that they are desperate to raise rates, but I don’t foresee them being able to raise rates more than once or twice because the international rates are so low. If the Federal Reserve does manage to raise rates, I would be concerned about it creating headwinds for the domestic equity market and the possibility of establishing a new recession. To guard against that risk without having to sell out of the market, I prefer to increase the allocation to the more defensive sectors. Utilities benefit from functioning as regulated monopolies which allows them to expect to earn a fairly steady rate of return. Their prices do move up and down with bonds which would make higher bond yields suggest that utility prices might go down, but the utilities also offer dividend yields that are often superior to the bond yields and they benefit from increasing dividends in most years. That creates a very compelling risk/reward proposition and gives investors a solid reason to favor adding a utility allocation to their portfolio when using SCHX as the core. Consumer staples benefits from having established positions and selling products that consumers buy in good times and bad times. For instance, the tobacco industry has been a great source of returns for the consumer staples sector and continues to create sales regardless of what is happening in the market. My estimates on reasonable allocations for consumer staples and utilities for a highly risk-averse investor would be running as high as 40% of the domestic equity position. Since these sectors only give us 9.1% and 3.0%, that would require investors to specifically add exposure to the portfolio. Meanwhile they could use a fund like SCHX for another 40% of the domestic equity allocation. I would want the remaining 20% of the domestic position for REITs. Investors looking for an easy way to invest in the consumer staples sector may want to consider the Vanguard Consumer Staples ETF (NYSEARCA: VDC ) as a solid partner for working with SCHX in a portfolio. For utilities, I would suggest the Vanguard Utilities ETF (NYSEARCA: VPU ). Conclusion SCHX is a very strong contender to be a core holding in the new portfolio. I wanted a replacement for SPY that I would be able to trade without commissions. Of course, I also wanted to see a lower expense ratio, and SCHX delivered that. I like the idea of combining a large cap fund like this with domestic positions in consumer staples and utilities to create a more defensive weighting since the market has been in a prolonged bull period and the price/earnings ratios have become fairly rich. Prices have dipped back down since late summer, but now investors are facing the possibility of weaker earnings in 2016 which could offset the reduction in price.