For the second quarter in a row, actively managed equity mutual funds dominated Pensions & Investments' performance ranking for both the one- and five-year periods.
A year ago, passive funds tracking the Standard & Poor's 500 stock index dominated P&I's ranking of the 50 best performing equity mutual funds most used by defined contribution plans. But at year-end 1997, eight of the top 10 equity fund performers for the year and all of the top 10 for the five-year period ended Dec. 31 were actively managed.
Six of the top 10 funds managed to beat or match the S&P 500's 33.36% return for the year. Eighteen funds beat the one-year 32.6% average return of mutual funds with an S&P 500 mandate tracked by Lipper Analytical Services Inc., New York.
For the five-year period ended Dec. 31, 22 funds beat the 20.27% annualized return of the S&P 500. Thirty-three funds beat the five-year 19.74% Lipper average return of mutual funds tracking the S&P 500.
The returns of S&P 500 managers, with their emphasis on large-capitalization stocks, were hurt midyear as small-cap stocks enjoyed a resurgence in the third quarter, said Jim McKee, a quantitative consultant at Callan Associates Inc., San Francisco. But the party was short-lived. Large-cap stocks bounded back early in the fourth quarter to fill the gap, with the Callan Large Cap Index returning 3.69% in the fourth quarter, compared with 2.49% for the Callan Medium Cap Index and 3.03% for the Callan Small Cap Index.
"In the second quarter, large-and small-cap stocks ran neck-and-neck. Small-cap stocks rushed ahead in the third quarter. But the fourth quarter brought a sudden reversal and the managers who were able to nimbly manage the move from small- to large-cap stocks were rewarded," said Mr. McKee.
There was a marked shift in the number of funds specializing in large-cap stocks between the third and the fourth quarters in P&I's ranking. Eight of the 10 best performing funds for the year ended Dec. 31 had a large-cap bias, compared with two large-cap funds in the top 10 for the year ended Sept. 30. Of the top 25 funds, 23 were large-cap for the year ended Dec. 31 vs. 13 for the year ended Sept. 30.
In the short term, funds using a blend of growth and value management strategies gained performance ground. Fourteen of the top 25 equity funds for the year ended Dec. 31 were so-called blend funds, compared with nine of the top 25 for the year ended Sept. 30.
Value managers made some headway in the five-year rankings. Twelve of the top 25 best performers for the five years ended Dec. 31 had a value orientation, compared to just five value managers who made the top 25 for the five years ended Sept. 30.
Only six of the 25 largest equity funds also were among the 25 best performers for the year ended Dec. 31. They were: The Vanguard Index 500, third largest; Fidelity Equity Income Fund, eighth; Vanguard Institutional Index Fund, 10th largest; Washington Mutual Investors, managed by Capital Research & Management Co., 12th largest; Vanguard Windsor, 13th; and Vanguard/PRIMECAP, 21st.
Ten of the 25 largest stock funds made it into the top 25 performers for the five years ended Dec. 31.
More changes than usual
P&I annually ranks the mutual funds most popular with defined contribution plans according to the amount of assets under management for retirement plans. From the list of the 100 equity and 100 fixed-income funds with the most defined contribution plan assets under management, P&I ranks the 50 best-performing funds on a quarterly basis. Performance data are courtesy of Morningstar Inc., Chicago.
There were more changes than usual in the lineup of the 25 best performing equity mutual funds in both the one- and five-year listings.
The Vanguard PRIMECAP Fund, a midcap blend fund, remained in first place with a 36.8% return for the year ended Dec. 31; it had been No. 1 for the year ended Sept. 30, as well. PRIMECAP also moved up to first place for the five years ended Dec. 31, with a 23.6% annualized return, up from fifth place for the five years ended Sept. 30.
PRIMECAP replaced the Dreyfus Disciplined Stock Fund in the top position in the five-year rankings. Assets managed for defined contribution plans in the Dreyfus Disciplined Stock Fund were not large enough as of Dec. 31 to place it on the list of the 100 largest equity funds.
The Vanguard Growth & Income Fund moved up the one-year rankings to second place with a 35.6% return, from fifth place the previous quarter. Ousted from second place was the Merrill Lynch Growth Fund/A, which dropped to number 84, with an 18.7% return. The Merrill Growth Fund/A moved up to second place for the five years ended Dec. 31 with a 23.2% return, up from seventh place in the previous quarter's ranking.
Putnam Investors Fund/A jumped up to third for the year ended Dec. 31, with 34.5%. The large-cap growth fund had been ranked 38th for the year ended Sept. 30. This fund moved up to 15th place in the five-year rank with 20.7%, up from 20th the previous quarter.
In all, 11 new funds were added to the 25 best performers for the one year period. To make room for the newcomers, the Neuberger & Berman Partners Fund dropped to 37th, with a 29.2% return, from fourth in the period ended Sept. 30. Also skidding well down the performance slope was the Dodge & Cox Stock Fund, which had been seventh for the year ended Sept. 30, but ranked only 76th for the year ended Dec. 31. The Scudder Growth & Income Fund also sank precipitously, to 30th for the year ended Dec. 31 from 10th last quarter.
Four funds that had been in the top 25 best performing funds for the third quarter did not have sufficient assets managed for defined contribution plans as of Dec. 31 to make it into the universe of the 100 largest funds. They were the Strong Common Stock Fund, the New England Growth Fund/A and the Victory Diversified Stock Fund and the Key Stock Index Fund.
Among funds new to P&I's performance and asset ranking was the Kemper-Dreman High Return Equity Fund. The fund ranked 24th among equity funds for the year ended Dec. 31 with 31.9% and sixth over five years, with 22%.
Also making its first appearance in P&I's 100 stock funds most popular with defined contribution plan investors and the top performance ranks was the Oakmark Fund, a mid- to large-cap value fund, managed by Harris Associates LP. The fund ranked 18th in the year with a 32.6% return and third for the five years with a 22.8% return.
The Oakmark Fund had $638 million under management for defined contribution plans as of Dec. 31, out of a total of about $7 billion.
Robert Levy, president of Harris Associates and the Oakmark Trust, said the company has relied on attracting both retail and defined contribution plan clients primarily through its investment returns, eschewing a heavy marketing effort to plan sponsor clients or consultants.
"We think the fund has been very well-accepted by plan sponsors and 401(k) plan participants because the performance has been consistent and the approach well-articulated. There's a lot of media awareness about the fund and its manager, Bob Sanborn, because the performance has been good. We do some cross-selling to existing defined benefit plan clients and some through alliances, but I think a lot of 401(k) plans offer the fund because their participants have read about it and ask for it. Our success has been driven by investor acceptance of our style consistency and probably, good stockpicking," Mr. Levy said.
Harris Associates uses the same disciplined approach for the Oakmark Fund that it does for institutional separate account management. The style applies five objectives: stocks are bought at a significant discount to the value of their underlying businesses; the focus is on companies that have an owner-oriented management; independent, in-house research is used; the portfolio is not overdiversified, holding between 40 and 45 stocks; and the portfolio is efficiently managed, with low turn-over, low expenses and a long holding period for stocks.
High-yield funds continued their dominance of the performance rankings of fixed-income funds popular with defined contribution plan investors. Nine of the top 10 funds for the year and nine for the five years were high-yield funds. The Fidelity Spartan High Income Fund retained its No. 1 place for the year with 16.9% and for the five-year list with an annualized 14.7%; it held the top spot in the one- and five-year rankings for the third quarter, as well. The Fidelity Capital & Income also held second place in both time periods with 14.7% for the year and 12.2% for the five years; it was No. 2 for both categories last quarter, as well.
Among the top 25 funds for the year ended Dec. 31, 14 were high-yield funds, eight intermediate bond funds, two long-duration specialists and one multisector fund. For the year ended Dec. 31, 27 funds beat the Salomon Broad Bond Index return of 9.62% and seven beat the Salomon High Yield Index return of 13.18%.
In the five-year rankings, 12 funds of the top 25 were high-yield funds, two were long-duration and two were multisector. The Salomon Broad Bond Index was an easy target with a 7.53% return for the five years ended Dec. 31; 33 funds beat it. Six funds beat the 11.81% Salomon High Yield Return for the five years ended Dec. 31.
In third place for the five years with a 12.1% return was the Federated High Income Fund, managed by Mark Durbiano, its first appearance in P&I's top 100 asset and performance rankings.