Morningstar Advisor - Spring 2008 - 44

Spotlight funds: Vanguard Managed Payout Growth Focus, Growth and Distribution, and Distribution Focus. Like Fidelity’s, Vanguard’s funds make monthly payments, but they do not plan to liquidate. Vanguard’s managers hope to earn enough on investor assets to avoid returning capital to shareholders (though it could happen). The Vanguard funds also can tap a broader set of asset classes, including stocks, bonds, real estate, inflation-indexed securities, commodities, and alternative asset classes, such as a new Vanguard market-neutral fund. (The prospectus also leaves the door open to hedge funds.) The funds will act like miniature endowments. Vanguard will actively manage the asset allocations of the funds to ensure that they can meet their payments without dipping into shareholders’ principal. An investment committee will use quantitative and qualitative analysis to set and adjust the asset allocations, which will be carried out by the firm’s quantitative equity group. Similar to closed-end funds, Vanguard’s offerings use a managed distribution policy, under which they will try to make targeted payouts in the middle of every month. The distributions will be the product of the number of shares an investor owns times a monthly distribution per share, which Vanguard will determine every Jan. 1, based on the funds’ prior three years of performance. (The formula to determine the distribution per share goes like this: Vanguard takes the annual distribution rate of each fund (3% for Growth Focus, 5% for Growth and Distribution, and 7% for Distribution Focus), divides it by 12, then multiplies by the quotient of the average daily value of a hypothetical account in the fund over the previous three years divided by the number of shares held in that hypothetical account at the end of the previous year.) In short, the funds’ distributions won’t be a fixed percentage of their net asset values or a set dollar amount. They could fluctuate with performance. Growth Focus will be the most aggressive of the trio and offer the greatest potential for appreciation (and risk of loss) and bigger absolute distributions over time. Distribution Focus will be the most conservative and fixed-income heavy of the funds, and the Growth and Distribution Fund will be in the middle. Investors need $25,000 to make an initial investment and $100 to add to their accounts. Vanguard estimates that the funds’ expense ratios will be about 0.58%, but that figure includes the market-neutral fund’s “short-sale dividend expenses,” which the fund covers by putting the proceeds of its short sales in interest-bearing accounts. Without the dividend expenses, the funds’ expense ratios would be 0.27% to 0.28%. Russell Retirement Distribution will have a more limited menu of investment options (stocks, bonds, and cash). Moderate Payout will have the lowest monthly payment but the best chance of appreciation (it can have as much as 60% in stocks). Maximum Payout will have the highest payment and the least chance of appreciation (no more than 10% in stocks). Enhanced Payout is in the middle (no more than 25% in stocks). Expense ratios range from 0.61% to 0.76%; minimums are $100. John Hancock Retirement Income Russell plans to offer three funds: 2017 Retirement Distribution, 2017 Accelerated Distribution, and 2027 Extended Distribution. They will make annual distributions, respectively, of $0.70, $1, and $0.60 per share, with the final payment coming in the year in its name. The funds will allocate assets over several equity, fixed-income, and real estate portfolios managed by the likes of Marsico Capital Management, Turner Investment Partners, and Wellington Management.The idea is to make the payouts and have a significant portion left over at the end of the period, though there are no guarantees. Expense ratios for the funds’ Class A shares, which charge a 5.75% load, range from 1.24% to 1.33%. There is no required minimum investment. Schwab Monthly Income John Hancock’s Retirement Income Portfolio also will be a fund of funds, but it will shoot for quarterly distributions of a set percentage of its NAV. The nonliquidating fund will have a wide range of options at its disposal and also the leeway to invest in hedge funds and commodities—and to sell securities short, according to its prospectus. The minimum investment will be $1,000, and it will charge 1.35% levy for its front-load share class. The fund will use John Hancock’s subadvised funds, which use dozens of managers, including PIMCO, T. Rowe Price, GMO, and Davis Selected Advisors. DWS LifeCompass Income Charles Schwab offers three funds: Moderate Payout SWJRX, Enhanced Payout SWKRX, and Maximum Payout SWLRX. They invest in a variety of Schwab and Laudus equity and fixed-income funds in an effort to earn enough to make monthly payments and grow capital over the long term. Like Vanguard’s Managed Payout funds, they will not liquidate, but they The DWS LifeCompass Income Fund INCAX provides a warranty on its distributions. It allocates assets over major equity indexes, zero coupon bonds, and short-term instruments in an effort to make regular semiannual distributions of 4.125% of NAV over a 10-year period ending in 2017. A warranty provided by Merrill Lynch protects the distributions and ensures that at the end of the fund’s life shareholders get the higher of 17.5% of the fund’s NAV on its inception date (essentially $1.75 per share based on a $10 initial NAV) or the fund’s NAV. The warranty, however, is only good up to $1 billion in assets, so the fund won’t get any bigger than that. Also, if the fund has to tap the warranty to cover a distribution before 2017, it will terminate and give shareholders the protected distribution ($4.125 per share) plus the $1.75 per share. The fund’s expense ratio starts at 1.87% and includes a 0.585% warranty surcharge. 44 Morningstar Advisor Spring 2008

Morningstar Advisor - Spring 2008

Table of Contents for the Digital Edition of Morningstar Advisor - Spring 2008