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Avoid Buying Mutual Funds Doing This

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Jason Zweig, writing at The Wall Street Journal, details some inexplicable behavior by mutual fund managers, including generating massive tax bills for owners. You should try to avoid funds doing things like this. He writes:

Mutual funds made one hot mess out of August.

On Aug. 10, Fidelity Investments conducted stock splits on some of its biggest funds, cutting their per-share prices by a factor of 10 while giving investors 10 times as many shares — a gesture that leaves shareholders exactly where they were before. On Aug. 22, Harbor Capital Advisors, which runs the $20 billion Harbor International Fund, announced it would pay out between 35% and 42% of the fund’s net asset value as capital gains — handing many of its investors a giant tax bill. And on Aug. 27, the Securities and Exchange Commission imposed $98 million in sanctions on several firms involved in the Transamerica Tactical Income Fund, alleging that they didn’t properly test that the fund’s strategy would work before launching it.

The main reason for Fidelity’s share split was to “eliminate confusion in the marketplace,” says a Fidelity spokesman, Charlie Keller. “It’s more of an optics thing.” Mutual funds tend to start out at $10 per share, apparently giving some investors the erroneous belief that a fund with a high share price must be overvalued.

Morningstar tracks 20 funds with prices of at least $250 per share. At the Bruce Fund, a $540 million stock-and-bond fund based in Chicago, net asset value this week exceeded $543 per share. Should the fund split to lower its share price? “I wish it was higher!” exclaims co-manager Jeffrey Bruce. In his 35 years at the fund, he says, “maybe one single investor” has ever urged a stock split.

“Would you rather have four quarters or one dollar?” asks Mr. Bruce. “It’s a moot question. We’ve never felt any urge or need to split.”

At Harbor International Fund, two factors triggered that jumbo tax bill.

First, over the 12 months ended July 31, according to Morningstar, investors pulled $12 billion out of Harbor International, the biggest withdrawal from any actively managed fund. That has compelled the fund to sell stocks — often at a taxable gain — to cash out the investors who leave.

Second, amid a decline in performance after 2013, Harbor has hired a new manager, Marathon Asset Management LLP, which will sell most of the existing portfolio.

Harbor International’s short-term woes stem from its long-term success. Its founding manager, Hakan Castegren, consistently earned market-beating returns until he died in 2010 — holding his favorite stocks for years on end.

So the fund bought many of its holdings at a fraction of their current market value. Selling them is triggering a gigantic tax bill.

Read more here.

Originally posted on Yoursurvivalguy.com.

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E.J. Smith

Editor-in-Chief
E.J. Smith is Founder of YourSurvivalGuy.com, Managing Director at Richard C. Young & Co., Ltd., a Managing Editor of Richardcyoung.com, and Editor-in-Chief of Youngresearch.com. E.J. graduated from Babson College in Wellesley, Massachusetts, with a B.S. in finance and investments. In 1995, E.J. began his investment career at Fidelity Investments in Boston before joining Richard C. Young & Co., Ltd. in 1998. E.J. has trained at Sig Sauer Academy in Epping, NH. His first drum set was a 5-piece Slingerland with Zilldjians. He grew-up worshiping Neil Peart of the band Rush, and loves the song Tom Sawyer—the name of his family’s boat, a Grady-White Canyon 306. He grew up in Mattapoisett, MA, an idyllic small town on the water near Cape Cod. He spends time in Newport, RI and Bartlett, NH—both as far away from Wall Street as one could mentally get. The Newport office is on a quiet, tree lined street not far from the harbor and the log cabin in Bartlett, NH, the “Live Free or Die” state, sits on the edge of the White Mountain National Forest. He enjoys spending time in Key West and Paris. Please get in touch with E.J. at ejsmith@youngresearch.com.