Morningstar Advisor - Fall 2007 - (Page 14)

Gray Matters Get ‘Em While They’re Cheap Scott Berry, Morningstar’s associate director of fund analysis, peered into the holdings of mutual funds in search of undervalued portfolios. He compared the prices of different fund portfolio holdings with Morningstar’s fair value estimates for those stocks. The typical fund he looked at had a reported portfolio date of June 30, but by focusing on low-turnover funds, he assumed most of holdings were still present in mid-September when he ran the study. He found four funds that he thinks offer investors good return potential based on the securities’ valuations. Each fund also happens to be run by skilled, experience managers. We think these funds’ poor recent performances present a buying opportunity for investors. Weitz Value WPVLX Of the 22 holdings Wally Weitz holds in the fund that have Morningstar fair value estimates (the fund holds 31 stocks), just one is considered overvalued by Morningstar’s equity analysts. As a group, the 22 are trading at a discount of about 33% to our analysts’ fair value estimates. The fund holds troubled financial-service provider Countrywide Financial CFC, which trades at less than half of our fair value estimate. The fund also owns Wal-Mart WMT, IAC/Interactive IACI, and Berkshire Hathaway BRK.B, all of which are on firmer ground and earn 5-star ratings. Oakmark Select OAKLX This fund provides a similar opportunity. Of the fund’s 22 holdings, 18 have fair value estimates. Those 18 trade at an average discount of 33% to our analysts’ value estimates, and we only consider one holding to be overvalued. Manager Bill Nygren’s stocks include Pulte Homes PHM and Washington Mutual WM, which have been stung by housing and mortgage concerns. He also owns industry leaders Time Warner TWX, Sprint Nextel S, Dell DELL, and Home Depot HD, which all trade at significant discounts. Legg Mason Value LMVTX Morningstar estimates fair values for each of Bill Miller’s top 25 holdings, which account for more than 85% of the fund’s net assets. The average discount of these holdings is 25%. Seventeen of the 25 are undervalued by our estimates, and half of those are undervalued by at least 40%. Miller’s finance stocks have slumped on mortgage concerns, but eBay EBAY, Sprint Nextel, and others have simply fallen out of favor. Jensen JENSX This large-growth fund’s portfolio isn’t as undervalued as the funds above. Morningstar has fair value estimates for all 26 of its holdings, which are trading at an average discount of 14%. Only four holdings are overvalued. Among those holdings trading at a discount of more than 15% are industry leaders Microsoft MSFT, Proctor & Gamble PG, Automatic Data Processing ADP, and McGraw-Hill MHP. The Best Stewards… Number Funds Average Score Funds’Average Letter Grade Clipper Davis/Selected Dodge & Cox Diamond Hill Longleaf T. Rowe Price Vanguard Oakmark Primecap FPA 1 7 4 3 3 65 96 6 3 5 10.0 9.4 9.0 9.0 8.7 8.6 8.5 8.4 8.3 8.2 A A A A A A B B B B …And the Worst Number Funds Average Score Funds’ Average Letter Grade Franklin Morgan Stanley Van Kampen 56 34 15 41 24 18 39 26 20 21 5.1 4.9 4.7 4.2 4.1 4.0 4.0 3.7 2.9 2.5 C C C D D D D D D F Few Funds Ace Morningstar’s Stewardship Test In the Summer 2007 issue of the magazine, senior analyst Laura Pavlenko Lutton wrote an article about Morningstar’s new Stewardship Grade methodology (“Our Stewardship Test Gets Tougher”). In September, the new grading system went into effect, and more than 1,000 funds were tested. Just two— Clipper CFIMX and Selected American Shares SLASX—earned perfect scores for stewardship and only 6% got A’s. Morningstar’s analysts also wanted to see how well fund families scored, on average. They determined the average grade issued to a fund in each family and then ranked the families from best to worst. The table shows the 10 best and worst. Putnam AIM Pioneer DWS Wells Fargo Evergreen Federated the market looked reasonably valued to Morningstar’s equity analysts at the end of the third quarter, Haywood Kelly Morningstar’s director of security analysis, says. The median stock in Morningstar’s coverage universe was slightly undervalued based on analysts’ estimates of fair value. That’s a cheerier picture than three months ago, when strong stock-market gains had pushed most stocks past Morningstar fair value estimates. Kelly reports that the number of stocks with 5-star ratings ballooned to nearly 300 in August. Much of the increase came from finan- Investors Can Bank on Some Bargains Despite all the hair pulling over the summer, 14 Morningstar Advisor Fall 2007

Table of Contents Feed for the Digital Edition of Morningstar Advisor - Fall 2007

Morningstar Advisor Fall 2007 Features Departments Letter from the Editor Inbox 10 Years After: Developing Markets Make Progress Research Briefs Investors Should Adjust Their Home Bias Few Mutual Funds Exhibit Serial Correlation Valuating ETFs, the Equity Analyst's Way It’s All About Location See the World (Differently) The Return of the Global Flexible Investor Map of International Value Sound as a Loonie? Fair Exchange In Their Own Worlds A Good Read Putting Their Heads Together Buying Protection Scoping Out Easy-to-Use Funds Finding Good Stewards Consumer Firms Go Global Mutual Fund Analyst Picks Undervalued Stocks Most Popular Variable Annuities New at Morningstar The Whole Wide World

Morningstar Advisor - Fall 2007

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