Ask MAX: You call THIS a MAXadvisor Favorite?

August 27, 2007

Dear MAX,

I really do like your layout and the information that you provide.

I do have one question: You call the Vanguard Precious Metals & Mining Fund (VGPMX) a MAXadvisor Favorite Fund, but it has a MAXoutlook of -16%. Why do you call a fund a MAXadvisor Favorite if you think it is going to perform so poorly in the next year?


Russ T.

Dear Russ,

How can we like and hate the same fund? We’re not bipolar – here’s how it works:

We give MAXadvisor Favorite honors to at least one fund in every stock fund category. No matter how well we think a category is going to do, we'll try and find the best funds available to you. You'll find a Favorite Fund listed in some categories we think are currently a very bad place to be invested - categories like real estate, Latin America, and yes, precious metals.

Our MAXoutlook is our forecast for a fund’s performance over the next twelve months. This figure is largely driven by our forecast for the fund’s category, the fund’s quality and fees, and the fund’s risk level. Safer funds generally don’t have big negative forecasts even if the category ranks poorly.

While the Vanguard Precious Metals fund is one of the best precious metals funds currently available to investors, we don't think the precious metals category as a whole is going to post very good performance in the next year. You’ll note we have even more dismal performance forecasts for some other more mediocre precious metals funds in the category.

Our category rating comes from three factors (each visible on a fund’s MAXfunds data page): 1) Category Hot Money – how fast money is coming into funds in a particular category 2) Category Fat Fund – how many funds in a category are too big and 3) Category Outperformance – how well a category has done compared to other categories. These are contrarian indicators – fund categories that have done well compared to other categories get bad ratings here. For example, precious metals funds get a 4 – Bad category outperformance rating due to the fact that precious metals funds have performed quite well over the last three to five years compared to other fund categories. Usually a period of out-performance like that is followed by a period of under-performance. In financial circles, it’s called reversion to the mean. When we build portfolios, we try to focus on owning favorites from categories we think are positioned to perform well going forward. It’s like the one-two punch to deliver better returns.

If you have a notion that we're just plain wrong about the precious metals category and you were looking for a place to take advantage of an even bigger precious metals boom (or maybe you like the short term momentum of investing where the money is going), Vanguard Precious Metals fund would be a great place to be. It's extremely low cost compared to other precious metals funds, and its risk adjusted performance has consistently been at the top of its category - and that (among other factors) is why it's a MAXadvisor Favorite Fund.

Bottom line: Vanguard Precious Metals is a good fund in a fund category our analysis says should perform badly going forward.


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