Second-Quarter Mutual Fund Performance

Byline: Ben White

Washington Post staff writer Ben White answered your questions on second-quarter mutual fund performance. White's article, 'Gauging Two Booms,' anchored The Washington Post's special report.

Coverage includes best and worst performers. You can also check out how the largest funds fared.

A transcript follows.

____________________

Ben White:

Greetings folks, hope everyone had a great 4th of July weekend. Lots of good questions on mutual funds and the markets already qeued up, so let's jump right in.

_______________________

Washington, D.C.: Does anyone have a good explanation of why long-term interest rates have stayed low and what this interest rate behavior may mean for the economy, the markets, and mutual funds?

Ben White: That's the million (or multi-trillion) dollar question these days, D.C.

Fed Chair Greenspan of course has called the stubborn refusal of long term rates to rise, despite short term Fed hikes, a "conundrum."

But theories abound. One says long term rates are predicting an economic slowdown, as they usually do. But GDP for the last quarter just got revised upward. So that may not be right.

Other theories include pension fund managers flooding into t-bills to generate steady cash to pay retiring boomers and international money continuing to snap up treasuries because the returns, while low, are still better than elsewhere. Another theory is that we are in a new sub-4 percent 10-year note environment based on the fact that all other investments (real estate etc are too expensive) and the certainty of government bonds is still attractive even at these low rates.

Sadly, I don't which of these theories is correct, but when anyone starts talking about a new paradigm it makes me nervous. And if rates do finally start to rise that could send real estate prices lower as mortgages get more expensive and fewer new buyers show up and it could hurt stocks and the economy because it would be harder for companies to invest. And of course current bonds get hurt when newer issues come to market at higher rates...

_______________________

Kill Devil Hills, NC: Of all the shares of stock owned by mutual funds, who does the voting for the stocks at the companies' annual meetings? What percentage of the daily stock trading is done by mutual funds? And , pardon my pessimism, if all the little people's 401k money goes into mutual funds and sit there, doesn't this mean that small groups of manipulators can screw around with the prices? Wouldn't it be interesting to see who really controls mutual funds?

Ben White: Kill Devil Hills. Great name.

Mutual fund proxy voting has been a hot topic the last couple years. To answer your question, mutual fund companies vote the shares they hold for their investors. In the past they did not have to disclose those votes. Now they do. And it seems from what research has been done that they typically vote with management and against any shareholder proposals on executive comp, expensing of stock options etc. I havent done much reporting lately to see if that's changed much since the disclosure rule went into effect but its certainly worth looking into.

As for manipulating, that of course was at the heart of the mutual fund scandal of the last couple years, hedge funds and others coming in and trading mutual fund shares after hours and in other ways that harmed investors. Hopefully the prosecutions and rule changes the scandal touched off have cleaned up much of the abuse. We'll see.

_______________________

Warrenton, VA: As an investor on the tail end of the baby-boomer generation, my risk tolerance is going down, along with the rest of us baby boomers. Do you see an increase in mutual funds that specialize in dividend paying stocks? Personally, that has been my belief for the past year and I'm starting to see more signs of it.

washingtonpost.com: Make Sure You Give Dividends Their Due

Ben White: Absolutely, especially with the favorable tax treatment given to dividends these days.

In addition, one of the arguments in favor of continued strong performance by funds that invest in REITs, Real Estate Investment Trusts, is that boomers like yourself will continue to migrate to their high dividends. By law they have to pay out 90 percent of taxable income in dividends.

_______________________

washingtonpost.com:

The Washington Post's coverage of second-quarter mutual fund performance includes:

Gauging Two Booms: How Long Can Oil And REITs Stay Hot?

A Modest Recovery From Winter's Pain

Biotechnology: Anticipating the Effect of Mergers

Utilities: The Appeal of Reliability

Hedge Funds: Changing Strategies In a Growing Sector

Make Sure You Give Dividends Their Due

_______________________

washingtonpost.com:

Charts include:

Best performers

Worst performers

Biggest funds

_______________________

Washington, D.C.: What's the buzz about Morgan Stanley's new chief?

Ben White:

This question refers to John Mack, who recently returned to Morgan Stanley as CEO after the ouster of CEO Phil Purcell.

The buzz is generally quite positive. I notice the stock is up about 1.5 percent this morning after a positive research note from Merrill Lynch.

The thinking is Mack will right the very troubled ship, retain top talent, spin off Discover card and generally heal open wounds between the two sides of the firm, the old line investment bank and trading desks and the Dean Witter retail side of the firm.

Could just be a honeymoon period, but right now Mack looks good.

_______________________

Silver Spring, Md.: Everyone says the safe bet is against the U.S. dollar. Are fund companies seeing more inflows into international funds?

Ben White: Yes, flows into international funds are rising. I imagine this will continue after people see how well some international funds, especially those invested in Latin America, performed in the second quarter. Brazil, Mexico and Chile are especially hot right now.

But one should always keep in mind that chasing performance is a very risky and usually foolish strategy. You might want to think about getting a bit more international exposure but don't go putting all your money into a Brazil fund or something crazy like that!

_______________________

Anonymous: What kind of economic signals are the Wall Street pros looking for these days? Is there a sense that the 2nd half will produce the same sort of breakout gains this year as what happened last year?

Ben White: Good question.

I think the big think right now is second quarter earnings, which will be coming out the next couple of weeks. They are expected to be down from last year's strong double-digit pace but if there are enough positive suprises Wall Street pros think that could get a rally started as stock price-to-earnings ratios are at fairly reasonable levels.

Of course everyone is also looking for any signal that the Fed is going to stop raising rates so data on inflation will be critical. Jobs numbers will also continue to be key to see whether economic growth can keep on a steady, if not blockbuster, pace.

One problem with a big late rally this year is that there is no presidential election to kick it off. If you'll remember, last year's gains came largely after the election ended w/out any recounts or other oddness.

_______________________

Baltimore: I'm struck by the utter insanity of the real estate market these days and found your analysis well written. Still, given the huge influx of foreign funds into U.S. REITs, it seems like the boom may continue on for another few years. Thoughts?

Ben White: Thanks Baltimore.

One important distinction here is that REITs tend to invest in commercial real estate while the biggest "froth" in the real estate market is in residential areas such as the Florida coast (and in my opinion New York City, but many don't share my belief on that).

I'm not sure that REITS can continue to return double digits each quarter but with the foreign flows and continued strong performance especially among hotels and retail stores there is certainly a chance that they will keep producing in the mid to high single digits.

_______________________

Arlington, Va.: The CEO of NAREIT was just on cnbc talking about reits' performance over the past 30 years. But he also stressed them as a tool to diversify portfolios. Think he senses people are considering a pullout?

Ben White:

Hmm. Interesting question, Arlington. I doubt he thinks that. But some are pointing to big volatility in mutual fund flows into REITs as a signal of nerves and that a little bit of bad performance could lead to a lot of speculative money coming out. So tread carefully.

But he makes a good point about diversity. REITs can be especially good hedges against inflation. But they should just be a piece of the larger pie.

_______________________

Ithaca, NY: I think the Post does a tremendous disservice by trumpeting quarterly mutual fund performance. All the research shows that average investors have time horizons for performance that are far too short, and that this leads them into value-destroying behaviors like chasing funds that have recent, hot track records.

I suppose you could make an argument that you present this information because that's "what your readers want". But a lot of people want crack, too.

I wish you'd do more to provide real investor education, and frame your data around what investing techniques that actually work, rather than feeding the beast of short-term performance focused mentality. Your short bit at the end about the perils of chasing hot sectors falls far short of this - especially when the remainder of the article is geared towards near-term market timing concerns on energy and real estate and the yield curve. Sure, I'd love to believe that I'm going to be the one to predict the yield curve. But do I really think I'm better positioned to do it than George Soros? Bob Rubin overseeing the prop desk at Citi? Don't feed readers' hubris.

How about next quarter you write about how to set a true long term asset allocation plan, about how to ignore the quarterly ups and downs of one sector or another, and talks about 5 year mutual fund performance? How about longer than 5 years - go open the Ibbotson books and talk about asset class returns over the last 75 years. Talk about how damaging transaction costs are to long-run returns. That would be adding real value to the conversation.

Ben White: Thanks Ithaca. This is a very common complaint about quarterly mutual fund coverage and the points are well taken.

I would however take some issue with your characterization of the piece, which I think focused fairly heavily on the risks of chasing performance and the wisdom of diversification and long-term investing.

That said, people DO want to know how their funds are doing both short and long term and I see no harm in providing this information.

For those just tuning in: DONT MOVE ALL YOUR MONEY TO ENERGY OR REAL ESTATE FUNDS! DONT CHASE SHORT TERM PERFORMANCE.

Clear enough?

_______________________

Washington, DC: Which are better, ETFs or mutual funds, especially from a diversification viewpoint?

Ben White:

Don't think I can say which are better. Anybody out there have an opinion on this?

ETFs can certainly offer instant diversification across a range of different companies and I don't believe they carry loads as some mutual funds do, but I'm not an expert on them.

Thoughts from others welcome on this topic...

_______________________

Alexandria, Va.: How are the tech-focused funds doing these days? Any signs of life?

Ben White:

Yes, there are some signs of life, Alexandria.

Growth funds, which tend to invest in faster growing industries such as technology, finally started outperforming value funds in the second quarter, after a long run of value dominance.

I talked to a few money managers for the Sunday piece who are very bullish on corporate spending on technology in the coming months and so very much like technology-focused growth funds.

_______________________

Bowie: What good is it to know what are the 30 (or whatever) best performing funds, when they probably all own pretty much the same holdings?

Ben White:

Fair point, especially in a quarter so dominated by real-estate. I think the value generally is to see what different kinds of funds did well, i.e. real estate, utilities, tech, etc...

_______________________

Bowie: ETF vs. Mutual Funds:

ETFs cost more to buy and sell. Mutual Funds cost more to hold.

If you're dollar-cost-averaging your way in with regular (e.g. monthly) purchases, buy funds.

If you have a lump sum to put in at once, but ETFs.

Ben White:

Here's what sounds like a very smart answer on the ETF vs. mutual fund question.

Many thanks, Bowie. Go Baysox!

_______________________

Ben White: OK folks. We are about out of time here. Thanks for the excellent questions on mutual fund investing and have a great week!

_______________________

Editor's Note: Washingtonpost.com moderators retain editorial control over Live Online discussions and choose the most relevant questions for guests and hosts; guests and hosts can decline to answer questions.

COPYRIGHT 2005 Washingtonpost Newsweek Interactive
COPYRIGHT 2005 Gale Group