What would you think if you learned that the salesman who had sung you the praises of Subarus drove a Volkswagen? What would you think if your banker at First Federated Five and Dime did his banking at Second Federated Five and Dime? How about if the school superintendent who lives next door, and who explains how wonderful your local schools are, sends his own children to private schools?
That kind of thing happens in all realms of life -- including the financial arena. Mutual funds, for example, are managed by financial professionals who invest money entrusted to them by shareholders. Do they invest their own money in the funds, too? You'd think they should, since they're presumably finding the most attractive investments around for their funds, and they should want to be invested in them as well.
Home cooking
I'm happy to report that plenty of fund managers do eat their own cooking. At the Bridgeway family of funds, for example, "portfolio managers may not purchase stocks which may potentially be held by the fund(s) they manage." The firm explains:
We encourage all partners, but portfolio managers especially, to hold shares of the Funds (or other mutual funds managed by a portfolio manager) as their primary method of investing in stocks. When portfolio managers trade for their own accounts, it is very difficult to argue that they are not 'cherry-picking' -- taking the best investments for themselves while leaving their investors with sub-par investments. Our investors should be able to expect the best performance the portfolio manager is able to achieve. In short, they should be able to say, 'If he/she is so good, I want to invest in what they are investing in.'
This scenario seems ideal, but I recently ran across some interesting data at Roy Weitz's fundalarm.com website. Weitz, an industry watchdog who often nips at the heels of wayward mutual funds, reported:
We're still astonished by the number of mutual fund managers who don't have even a penny invested in their own funds. ... After all, how tough can it be for any well-paid manager to put together the fund's minimum investment, and at least pretend that he or she's in the game along with the fund's shareholders? ... Shouldn't that be the least we expect of any fund manager, just as we expect them to read English, add two numbers together, and avoid drooling on themselves at lunch?
The "worst"
Weitz went on to provide a table of data. Here are the "five worst fund families":
- American Century, with 11 funds having no manager investment, out of 32 funds studied
- Federated, with 13 funds having no manager investment, out of 19 funds studied
- Bridgeway, with six funds having no manager investment, out of 11 funds studied
- Morgan Stanley, with 21 funds having no manager investment, out of 36 funds studied
- TIAA-CREF, with 17 funds having no manager investment, out of 24 funds studied
So, sticking with Bridgeway, what can be the explanation? I did a little digging through the firm's "Statement of Additional Information" (SAI) and learned that most of the funds seem to have the same top managers, and that they do have investments in the firm's funds -- just not in all of the funds. Is this reassuring? Well, just a little.
I happen to be a shareholder in the BridgewayUltra-Small Company MarketFund (FUND:BRSIX), and its top three managers are listed as having no money of their own invested in the fund. That's disconcerting, I confess. But so far, it's not enough for me to bail out of the fund. It has a strong track record, after all, gaining an annual average of 20% over the past five years.
The "best"
You might be wondering which fund families fared best in Weitz's review. Here they are:
- Janus, with zero funds having no manager investment, out of nine funds studied
- Royce, with zero funds having no manager investment, out of 13 funds studied
- Artisan, with zero funds having no manager investment, out of four funds studied
- American Funds, with zero funds having no manager investment, out of nine funds studied
- T. Rowe Price, with one fund having no manager investment, out of 27 funds studied
Note that just as fund families labeled "worst" often have a lot to recommend them, "best" families can also have problems. Managers who eat their own cooking are a positive sign, but their investment may not necessarily be what it seems. A fund manager might have $100,000 invested in a fund, but if he or she is a multimillionaire with lots of other investments, he or she may have a smaller percentage of overall net worth invested than you do.
Do your digging
It's important to do some digging and thinking before investing in a fund. You always want to look for funds with:
- Managers you trust, whose philosophies are in tune with yours
- Low fees
- Solid track records
If you're not keen to do all that digging and thinking on your own, I invite you to take our Motley Fool Champion Funds newsletter for a spin, for free. Doing so will let you access all past issues and all past recommendations -- at no risk or cost -- which lets you benefit from all the digging that our analyst Shannon Zimmerman has done. His picks have gained an average of 15% vs. 7% for benchmark indexes. One of his recommendations, from last January, focuses on mid-cap growth companies, is up more than 20%, and includes top holdings such as Weatherford (NYSE:WFT), Oracle (NASDAQ:ORCL), Cisco Systems (NASDAQ:CSCO), Hewlett-Packard (NYSE:HPQ), Analog Devices (NYSE:ADI), and Flextronics (NASDAQ:FLEX).
Learn more about mutual funds in our Mutual Fund Center and check out these articles, too, if you have a chance:
Longtime Fool contributor Selena Maranjian 's favorite discussion boards include Book Club , Eclectic Library, Television Banter, and Card & Board Games. She owns shares of no company mentioned in this article. For more about Selena, viewher bio and her profile. You might also be interested in these books she has written or co-written:The Motley Fool Money GuideandThe Motley Fool Investment Guide for Teens. The Motley Fool is Fools writing for Fools.
