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Green Stocks Too Hot?

May 16, 2007

Marketwatch reports that so-called "green" stocks, the underlying investments of environmentally-focused socially responsible funds, could be heading into speculative bubble territory.

'It was just a year ago where we would have somebody arguing with us over whether or not the market would ever favor green investing,' says Jack Robinson, co-manager with Matt Patsky of the Winslow Green Growth Fund. "What a difference a year makes.'

Indeed, some green fund managers now see the share prices of many companies tied to environmental sustainability as, well, unsustainable. 'Now you've got to worry about valuation and some of the speculative bubbles that are building,' Robinson says.

'I'm certainly concerned that you have too much hot money moving in,' says Eric Becker, co-manager of the Green Century Balanced Fund , which keeps about two-thirds of its portfolio in stocks and the rest in bonds. 'There are investors who are going to get burned.'"

We feel investor exuberance (and lack thereof) is a key factor in investing decisions. There are many ways to keep tabs on how overblown an investing idea is. Initial public offering volume and excitement is one indicator, as is rising prices and investor enthusiasm.

However, just because a few stocks go public and a few others rise does not mean the party is over. We consider fund investor behavior to be a little more indicative of bubbles and future bad performance than hot stock performance in an area. On each fund data page on MAXfunds.com, you will see our “Hot Money Index” which measures how much money is flooding into a fund. We also measure hot money across all funds in a fund category.

You'll note that many of these green funds do not have much hot money, meaning they are not bringing in the hundreds of millions (and sometimes billions) of new cash we often see before an area stalls or worse, crashes. But before jumping to the conclusion that this means there is much more upside here, be aware that most of this sort of “trendy” money these days goes into ETFs, not old fashioned open end funds.

While the typical fund investor hasn’t put many chips on the alternative energy table in open end funds in the last year, ETFs have had more success. We now have new ETFs like PowerShares WilderHill Progressive Energy (PUW) and PowerShares Wilder Clean Energy Portfolio (PBW). The later is tipping the scales at around a billion dollars, pretty big money for a gimmicky new fund. New fund launches are another negative sign – fund companies tend to launch new funds near the top not near the bottom of any cycle. PBW has brought in more than ten times what the newest open end alternative energy fund has brought in – Guinness Atkinson Alternative Energy (GAAEX) - even though this open end fund has performed better than the ETF.

Bottom line, if you look just at open end funds, we have more to go in this speculative area. When you bring in ETFs, we look a lot closer to the top in alternative energy stocks.

Green funds mentioned in the article:

Winslow Green Growth Fd (WGGFX)

Portfolio 21 Fund (PORTX)

Sierra Club Stock Fund Inv (SCFSX)

Green Century Balanced (GCBLX)


Resist the Urges

May 14, 2007

Morningstar's Fund Spy lists three critical investing mistakes to avoid:

Don't read too much into the recent past - Instead of doing the necessary and possibly tedious homework to research a potential investment, investors "anchor" their expectations for the future in the recent past.

The problem, of course, is that yesterday doesn't always tell you what tomorrow will bring. If you don't believe us, just ask investors who swarmed red-hot technology- and Internet-focused stocks in 1999 and 2000 expecting the good times to continue. They didn't, and most folks ended up suffering huge losses.

You don't know as much as you think - We think we're more capable and smarter than we really are. As an investor, you should check your excessive optimism at the door. You might believe you're more likely than the next guy to spot the next Microsoft, but the odds are you're not.

Keep winners longer and dump losers sooner - (Behavioral-finance) noticed that investors would rather accept smaller but certain gains than take their chances to make more money. On the flip side, investors are reluctant to admit defeat and sell stocks that are underwater in hopes of a rebound. As a result, investors tend to sell their winners too early and hang on to their losers for too long."

And as long as you're in an investing-rules-list-reading kind of mood, take a gander at our oldy but goodie (circa 2000) Seven Golden Rules of Mutual Fund Investing. Note that fund data pages have changed since then - please review current definitions of metrics by rolling over the terms on our new data pages.


12b-1 Fees Gone Wild

May 11, 2007

John Waggoner at USA Today looks at the wacky past and current state of affairs of the oddly-named mutual fund 12b-1 fee.

The American Funds' Growth Fund of America A, for example, which is the nation's largest fund, weighing in at $85 billion in assets, doesn't exactly need to jack up its marketing efforts to attract more assets. Yet that fund charges a 12b-1 fee of 0.25% — nearly as much as its other fees combined. The American Funds says the fee goes to servicing accounts.

The 12b-1 fee is also at the heart of the bewildering multishare class system we have today. In many cases, 12b-1 fees have morphed into a way to indirectly pay a broker's commission.

Funds discovered that people don't like to pay commissions on mutual funds. So they used the 12b-1 fee to make the brokerage charges more palatable and less transparent.

A particular mutual fund might have three share classes. Each share class represents the same portfolio but has a different expense structure."

For those looking for a brief history into the nature and causes of mutual fund 12b-1 Fees, it’s a must read.

An interesting factoid from the article: the entire mutual fund business had less money in total assets in 1980 than in 1972. Now THAT’S a rough market environment. No wonder everybody was buying gold – they plum gave up on stocks ( gold is still down from 1980 and stocks are up well over 20-fold). Today total mutual fund assets are much higher than the market peak of 2000 - even though the S&P 500 just broke its old record set in 2000. Fund investors are just more forgiving these days.

More startling, American Funds Growth Fund Of America Class A (AGTHX) alone has more money in it today than the entire fund business was managing back in 1980.


Do You Know Something the Pros Don't?

May 10, 2007

Your fund returns are through the roof. The market is smashing records on a daily basis. So why aren't you more excited? Recent studies have shown that most investors are expecting rough economic seas ahead.

Clearly there is a disconnect here because strong market activity typically isn't met with widespread pessimism.

'The market's move is dollar-weighted, it's being fueled by the big institutions but retail investors have, for the most part, not participated,' says Jack Ablin, chief investment officer for Harris Private Bank in Chicago. 'Fewer and fewer people are participating in the market's prosperity.'

Some of that situation is hangover from the last bear market. Investors who became euphoric in the late 1990s got hammered when the market turned in 2000 and they're not anxious to repeat the experience. They discount the market's performance because of all the negative factors they see out there and don't want to get caught up in any euphoria because that was a big reason they got tripped up the last time.

Another issue is inflation, particularly as it impacts regular costs and savings. This is where, for many people, rising gas prices figure in.

A recent study conducted for the Civil Society Institute's 40MPG.org project showed that about half of all households, regardless of income level, will "definitely or probably" have to cut back on personal spending if gasoline hits $3.50 per gallon."

While the current somewhat low inflows of new money to stock funds (relative to money market and bond funds) is a mild positive for stocks (fund investors tend to be wrong), we have not seen fund investors pull big money out of stock funds. Such a move would be needed before there will be any real bargains in the stock market.

It is quite possible that individual investors are more accurately assessing stock market risk than professionals these days. The economy is slowing, but the stock market is speeding along. That can’t go on forever.


Another Mutual Fund Burglar Gets Off Easy

May 9, 2007

You don’t hear much about the great mutual fund rip-off these days. Maybe it’s all the record Dow closes. Maybe all the big cases seem to have been settled. Justice was doled out, and all that good stuff. Swiss insurance giant Zurich Financial just paid a not-so-whopping $16.8 million to settle up with the SEC.

Zurich Capital Markets, a U.S. subsidiary, helped four hedge funds disguise their identities to avoid detection when making frequent trades in mutual-fund shares, a practice called market timing, the SEC said in statement today.

By knowingly financing their hedge funds clients' deceptive market timing, ZCM reaped substantial fees at the expense of long-term mutual-fund shareholders,' Mark Schonfeld, director of the SEC's regional office in New York, said in the statement."

As a refresher, the fund timing scandal involved crooked banks and brokers working with crooked hedge funds and other institutional investors to systematically skim ordinary fund shareholders out.

Frequent trading in and out of mutual funds can allow the smart trader – or timer – near risk free profits by effectively taking advantage of pricing anomalies at mutual funds. One scheme involved trading funds that invest overseas, arbitraging the stale prices resulting from time zone issues. Another favorite allowed trading after hours in funds that would move the next day on big news released after the market closed.

As would be expected, such money moves increased ordinary fund investor’s exposure to downside, but decreased their exposure to upside. This in addition to increasing costs incurred by the fund (and therefore the shareholders) handling all the fast money flows.

While such fraud lacks the flash of absconding with an entire account, stealing small amounts from millions of people should be punished just as severely as stealing large amounts from a small amount of people. Apparently the SEC sees things a little differently.

The settlement includes a $4 million fine and forfeiture of $12.8 million in profits. The money will be distributed to mutual-fund investors harmed by the trading, the SEC said."

Keep in mind Zurich probably made $4 million investing that $12.8 million in illicit profits. The SEC can chalk up another "success" and the global financial industrial complex can rest assured that, as Bob Dylan once said, "Steel a little and they throw you in jail, steel a lot and they make you king."

O.K. maybe replace king with "give the money back"...


Deep Six the 12b-1

May 7, 2007

When it comes to mutual fund investing, we're cheapskates. We know that every one-tenth of one percent a mutual funds charges in fees means less money that mutual fund will make our MAXadvisor Powerfund Portfolio subscribers and MAXadvisor Private Management clients over the long haul.

This example from the securities and exchange commission website illustrates how much fund expenses can affect returns: If you invested $10,000 in a fund that produced a 10% annual return before expenses and had annual operating expenses of 1.5%, after 20 years you would have about $49,725. But if the fund had expenses of only 0.5%, then you would end up with $60,858 - an 18% difference.

So when a guy makes a great argument for eliminating the dubious and oft-abused 12(b)1 fee, we're all ears:

The 12(b)1 mutual-fund fee should be eliminated, just like fixed brokerage commissions were more than three decades ago.

As additional charges levied on mutual-fund shareholders, 12(b)1 fees were introduced in 1980 to help companies pay for marketing and distribution expenses. Yet over time, this revenue, which diminishes your total return, has been directed to brokers and other marketers.

'Does the fee do anything to help the consumer? Absolutely not,' says Jeff Seymour, managing director of Triangle Wealth Management LLC in Cary, North Carolina. 'Most of the time it's a 0.25 percent annuity for doing nothing.'

'What's worse is that sometimes 12(b)1 fees are a full 1 percent annually,' Seymour says. 'The broker-salesperson has no obligation to do any work for that revenue stream. This income is on top of any commission or asset-management fee.'

Unless lobbying by the industry manages to save it, the fee may be cut by the U.S. Securities and Exchange Commission, which is reviewing it.

'The transformation of the 12(b)1 fee from a distribution subsidy to a sales load in drag is now so nearly complete that the primary purpose to which the $11 billion in 12(b)1 fees last year were put was to compensate brokers,' Christopher Cox, chairman of the SEC, said on April 13 at the Mutual Fund Directors Forum in Washington."

Of course, there's more to frugal fund investing than simply buying those that don't have a 12(b)1 fee. Be sure to check our MAXrating: Expenses on each fund's data page for the simplest way on the web to tell if a fund you're thinking about investing will cost you too much.


See also:

Are You Paying a Sales Load?
Fund Fee Primer

Chase Performance, Loose Big

May 4, 2007

Why did that top performing mutual fund hit the skids right after you bought in? Because you, along with about a gazillion other performance chasing investors, flooded it with more money than it could handle. Mark Hulbert in the New York Times reports on a study by Berekely finance professor Jonathan Berk which argues that the main reason most top performing funds can't continue their winning ways over the long term is that they become overwhelmed with new investor money.

The reason that so few mutual funds beat the market over the long term is that investors shift too much money into the successful ones, or so the theory goes. As a result, these funds’ managers quickly become swamped with more money than they can invest profitably, causing performance to suffer.

A helpful analogy, Professor Berk said in an interview, is to the so-called Peter Principle, which predicts that employees will be promoted until they reach their level of incompetence. Similarly, a mutual fund manager who beats the market will continue to attract more assets until he can no longer beat the market."

Unfortunately, while funds with outstanding recent performance is usually followed by a period of underperformance, lousy past performance is not a predictor of good things to come:

This theory has been less successful, however, when applied to the worst-performing mutual funds. Less-able managers should become competitive once their portfolios become small enough, because, according to Professor Berk, it is easier to beat the market with a smaller portfolio than with a larger one. So, as investors shift money out of a lagging fund, its size should stabilize at whatever lower level is necessary to give its manager a fighting chance of beating the market.

If this part of the theory were right, the worst performers would be no more likely to stay bottom-ranked than top performers to remain top-ranked. But that is not the case, according to the professors. A low-ranking performer, in fact, has a significantly greater chance of continuing to be a low-ranking performer than a top-ranking performer does of staying at the top."

Berk believes that poor performers continue to perform poorly because investors tend to stick with these dogs instead of selling. "By not selling, this loyal group prevents poor performers from becoming small enough that their managers can become competitive again."

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MAXadvisor Powerfund Portfolios Update

May 2, 2007

Note to subscribers of the MAXadvisor Powerfund Portfolios: May's feature article has been posted. Subscribers can log in by clicking here.

Last month the Dow hit 13,000. We look at what the stock market's latest milestone means to Powerfund investors.

The MAXadvisor Powerfund Portfolios is a collection of seven model mutual fund portfolios ranging in risk from very safe to quite aggressive. Each portfolio is made up of a group of terrific, no-load, low-cost mutual funds that are carefully chosen to work together to lower volatility and increase returns. You can learn more about the MAXadvisor Powerfund Portfolios (and sign up for a free trial if you like what you see) by clicking here.

The Kip 25

May 1, 2007

Kiplinger has published their 'Kip 25' list of what they consider to be the 25 best mutual funds, and their selection methodology shares many factors with the one we use when picking funds for the MAXadvisor Powerfund Portfolios' 'Our Favorite Funds' report. Like us, Kiplinger's editors won't even consider funds with sales loads. They also share our love of funds with low expense ratios, minimal asset bloat, and solid long-term performance. Here's the complete Kip 25, with asterisks indicating funds that also appear on 'Our Favorites' list.


Fantastic Fund Freebies

April 30, 2007

Chuck Jaffe at Marketwatch periodically contacts mutual fund companies and asks for educational materials and says that while these freebies usually come with a healthy does of promotional material, a lot of what he gets is surprisingly useful. Here are some highlights:

  • Handheld "slide-rule calculators." I love old-fashioned, cardboard hand-held gadgets that let you slide your way through inputs and outcomes. You practically can't stop playing with them, learning something with each move. They're simplistic, but still a good jumping-off point.
  • AllianceBernstein's "College Debt Crunch." This calculator is one of the most interesting I have seen in a long time because it is designed to show the long-term impact of education debt on college graduates. A few minutes playing around -- or letting your kids use it if they are responsible for tuition -- and you're likely to increase your college set-asides immediately. You can get the calculator by calling AllianceBernstein at 800-227-4618. You also can order versions online or use an electronic version at www.collegedebtcrunch.com.
  • College savings. Of course, it helps to know how much money you will need to save and the college savings slide-rule from American Century's Learning Quest program gives you a quick-and dirty estimate of how much you will need -- and how much to invest monthly based on your child's age -- in order to pay for a public or private education. You can get the calculator by calling 1-800-579-2203.
  • Allocation models. The asset allocation calculator from Franklin Templeton Investments (1-800-342-5236) remains one of my all-time favorites, providing five sample allocations and allowing you to track how money invested that way would have performed over the five- to 20-year periods ending Dec. 31, 2006. This lets you measure your current strategy against others, letting you know if you want to stay the course or need to consider a change.
  • Putnam Investments' "retirement calculator." This slide-rule -- available at 800-225-1581 -- is a two-sided, dual-purpose keeper. On one side, it allows you to determine the future value of systematic investments; it's a great way to show not only how $50 a month adds up over time, but how doubling that number -- or going even bigger -- will turn small monthly dollars into lifetime money. On the flip side, the calculator helps determine the future value of your current savings, which will help you see how much $10,000 will have grown to when you reach retirement, based on various rates of return and your current age.
  • Organizers. T. Rowe Price recently created a new "family records organizer" that is a terrific tool for anyone trying to get a handle on their finances. The freebie in this case is actually a CD-ROM -- available by calling 1-800-538-2706 -- that does a great job of helping a family gather and manage its records in one single place. Having looked at fund freebies for years, this is one of the best I have ever seen.
  • Mixing it up. As long as you are calling T. Rowe Price, ask for the company's "asset mix worksheet," as it could be a very good tool for deciding how to best position your money.