Morningstar Advisor - August/September 2013 - (Page 71)

surprise that some funds on the list have been poor performers in recent years, given the fact that basic materials and energy stocks have underperformed. Below is a sampling of funds on the list. Artisan Value ARTLX This large-value fund has overweightings in not only energy stocks (23% of the portfolio) but tech (21%), financials (24%), and to a lesser extent basic materials (8%). The fund’s veteran management team seeks out companies with good business models and healthy balance sheets that trade at significant discounts to the team’s estimated value of those stocks. Top holdings in the concentrated portfolio of around 30 names include Samsung preferred shares, Apple AAPL, and Apache APA, a midsized oil and gas company. The fund showed good timing in reducing its energy stake in early 2008, thus avoiding the plunge in oil prices later that year. But its bet on bank stocks around the same time turned out to be a bad idea. Morningstar senior fund analyst Greg Carlson says the fund is re-evaluating its approach to the energy sector in the wake of the poor performance of its energy stocks in 2012, a year in which the fund trailed about two thirds of its large-value peers. Royce Micro-Cap RYOTX Investing in some of the smallest publicly traded companies, with average market cap of its holdings at $363 million, this micro-cap fund holds 14% of its portfolio in basic materials companies and invests 21% of assets in non-U.S. stocks. The fund’s managers favor companies with balance sheet quality, high returns on invested capital, and earnings stability. They only buy stocks trading at 30%–50% discounts of their assessment of the companies’ worth. Performance since 2011 has been poor compared with its mostly smallcap-focused peers, but Morningstar analyst Karin Anderson says the managers’ strong stock-picking has made the fund a long-term winner relative to the competition. The fund’s 1.47% expense ratio is above average for a small-cap, no-load fund. Wells Fargo Advantage Small Cap Value SSMVX Investing 25% of its portfolio in energy stocks and 14% in basic materials (mostly mining) puts this fund well over the small-blend category average for both sectors. About one fourth of assets are invested in non-U.S. companies, and its largest single holding is Australian energy company InterOil IOC, which makes up 11% of the portfolio. Management takes what Morningstar analyst Dan Culloton calls a flexible value approach, seeking out stocks that look cheap relative to their intrinsic values and have good growth prospects for the coming three years. Managers also look for contrarian opportunities. Despite the fund’s bottom-quartile returns each of the past three years, Culloton cites the track record of longtime manager Charles Rinaldi and his disciplined process as reasons to believe in this fund. At 1.33%, annual expenses are above-average for a small-cap, no-load fund. For investors interested in sector funds that focus on these areas of the market, quality options include Vanguard Energy VGENX, a Gold-rated fund run by a seasoned management team, and RS Global Natural Resources RSNRX, a Silver-rated fund that primarily invests in both sectors. (Some investors will pay a load to buy shares in the RS fund.) Those looking for exchange-traded funds that invest in these sectors might consider Morningstar analyst favorites Vanguard Energy ETF VDE and iShares S&P Global Materials MXI. holdings earn the quality label, and this shows in the portfolio’s typically below-average net margins. Delafield and Sellecchia compound the potential turbulence by sticking largely to their comfort zone amid economically sensitive materials and industrials companies, which account for a combined 60% of assets. This seemingly combustible mix has made the fund one of the mid-value category’s most-volatile offerings. Volatility is not always the same as risk, and the fund has used that to its advantage. The turnarounds it targets rarely move in a straight line, but Delafield and Sellecchia have generally avoided blow ups. This owes to their experience, as well as to their preference for companies with decent-to-improving balance sheets, a trait that allows the duo to be patient. So while price volatility can lead to underperformance such as in 2011, the team’s knack for preserving capital has led to better results during bear markets than one might expect. But, the fund has earned rich rewards by picking up stocks in turmoil, beating its average peer by an annualized 2.4 percentage points since its 1993 inception. Such rewards are reserved, though, for those who share the managers’ tolerance for short-term turbulence. Adam Zoll is an assistant site editor with Morningstar.com. This article originally appeared on Morningstar.com. Delafield DEFIX Delafield, which has a Morningstar Analyst Rating of silver, excels by exploiting the gap between volatility and risk. The fund’s often healthy cash stakes have neither held back returns nor substantially damped volatility. This hints at how dynamic the portfolio’s holdings can be. While many managers crave stability, comanagers Dennis Delafield and Vince Sellecchia seek cheap stocks resulting from failed acquisitions, misguided strategies, and management upheaval. Few MorningstarAdvisor.com 71 http://www.Morningstar.com http://www.Morningstar.com http://www.MorningstarAdvisor.com

Table of Contents for the Digital Edition of Morningstar Advisor - August/September 2013

Morningstar Advisor - August/September 2013
Contents
Contributors
Letter From the Editor
Under Pressure
Has Your View of Bonds Recently Changed?
The Simple Life Cuts a Path to Prosperity
How Extended Is Your Bond Fund?
A Bond Contrarian Scours the Globe for Value
Investments á la Carte
Investment Briefs
Bond Market Behemoths
Shopping in the Digital Age
Shopping in the Digital Age
Diverse Crowd
Motor City Meltdown
Bond Convergence
Corporates Are Fairly Valued, but Opportunities Will Arise
A Legend Still Pines for the Good Fight
Greener Pastures
Forecasting Market Bubbles and Crashes
Forecasting Market Bubbles and Crashes
Home-Court Advantage
Overcoming Technophobia
These Funds Are Counting on Undervalued Sectors
Our Favorite Mutual Funds
50 Most-Popular Equity ETFs
Undervalued Stocks With Wide Moats
What Price Advice?

Morningstar Advisor - August/September 2013