As the point person on the Fool's Champion Funds newsletter service, I spend copious quantities of time crunching mutual fund statistics. That task comes with the territory, of course, because I'm always on the lookout for picks that I think have what it takes to beat the market over the next three to five years and beyond. (And so far, so good, too.)
Thing is, when you're dealing with an investment universe that includes thousands of potential contenders, you need to work with certain key concepts in order to whittle down that vast array to the select few that can get the job done -- and then some -- over the long haul.
Kick-start
For starters, then, I kick out load funds. In all my years of investing in and researching funds, I've yet to encounter a load fund so strong that it couldn't be replaced by an even better no-load alternative. And with no-loads, all the money you invest goes to work for you. Not so funds with loads, which are sales charges that help compensate the folks who guided you to the fund.
But even after eliminating funds that carry loads, you're still left with more than 2,000 funds on the domestic-stock side alone. How to pare that list down? Good question, and here are a couple of good answers, techniques you can use to home in on those funds that just might be worth a portion of your nest egg.
1. Focus on fees
When it comes to mutual funds, you generally get what you don't pay for. One of the main reasons that most actively managed funds lose out over the long haul to index trackers such as Vanguard Total Stock Market (FUND:VTSMX), Vanguard 500 Index (FUND:VFINX), and the popular exchanged-traded fund called SPDRs (AMEX:SPY) is that they run with higher expense ratios.
Judging from some of the email I receive whenever I write about the importance of fund fees, some folks are under the impression that when you pay up for a fund, you're buying a superior product -- in this case, a money manager who is worth, say, upwards of 2% of your assets each year because he's delivering the goods.
Actually, though, while there are exceptions to the rule, that's almost never the case. Indeed, because expense ratios come right out of returns, the chances of a manager whose fund has a luxury-item price tag beating the market over time are exceedingly slim. Not for nothing, then, will the typical fund I've recommended in Champion Funds ding you less than 1%. And some cost far less than even that paltry sum.
For example, one large-cap Champ -- a fund whose portfolio includes surging energy picks such as Occidental Petroleum (NYSE:OXY), ConocoPhillips (NYSE:COP), Chevron (NYSE:CVX), and BP (NYSE:BP) -- shaves off less than half a percentage point each year for expenses. And get this: Since I gave it the nod in the newsletter, this Champ has beaten up on the S&P by more than 10 percentage points.
Not too shabby, eh?
2. Focus on the manager
As outlined above, I don't advocate paying a premium for a manager. I do, however, support putting a high-quality stock picker at the top of your mutual fund shopping list. Indeed, there's nothing inherently magical about any fund. They can only ever be as strong as the person running the show, and for that reason, it's especially important to look past a fund's star ratings and Lipper scores.
Those can be helpful, to be sure, but they're purely quantitative measures, ones that assess a fund based on its past performance at that. Thus, if the manager who is responsible for a fund's five-star track record, for example, is no longer on the case, that rating doesn't tell you a thing about the fund's forward-looking prospects. The upshot, then, is this: When your job is to ferret out tomorrow's mutual fund winners today, you focus not on the fund but on its manager, mainly by looking at all the data and then asking (and answering) a slew questions, such as:
- How has the manager fared over the long haul?
- In which kinds of markets has his strategy worked best? Worst?
- And speaking of strategy, just how does he go about picking individual stocks and assembling them into a portfolio?
- How does he manage that portfolio's risk? And on a related note, just how good a job has he done over the years of both growing and preserving shareholders' capital?
Inquiring minds want to know! And that, moreover, is hardly an exhaustive list of the queries I work with when making recommendations for Champion Funds.
Foolish bottom line
If you'd like to see what all the above looks like in action, I encourage you to consider taking an absolutely risk-free trial of the newsletter. You'll receive access to all of the recommendations I've made since we first opened for business, along with our model portfolios, world-class dedicated discussion boards, and all of the newsletter's back issues.
Quite the deal, no?
Shannon Zimmerman is the lead analyst for Champion Funds. He owns shares of Vanguard Total Stock Market. The Fool has a strict disclosure policy, and you can read all about it by clicking righthere.
