Mid-cap funds may strike right balance for investors


April 24, 1994|By WERNER RENBERG | WERNER RENBERG,1994, Werner Renberg

You may have read here and elsewhere about studies that found that diversified portfolios of small company stocks have outperformed diversified portfolios of large company stocks over time but have demonstrated more volatility in doing so.

If you thought about the implications, it might have occurred to you that medium-sized companies' stocks also may have performed better than large companies' -- if not by as large a margin -- and that they may have been less volatile than small company stocks.

Thus, you may have wanted to find a fund primarily invested in medium-sized companies -- or, in securities industry jargon, "mid-cap" companies, a term referring to the companies' market capitalization (market price per share times the number of shares outstanding).

Until a few weeks ago, your search for such a fund would have been a challenge, since few funds' names indicate such concentration.

Now your job is easier. Having announced in October that it would create a new mid-cap fund category, Lipper Analytical Services went public in March with performance data that it had computed for its group of more than 70 funds. Of those Lipper classified as mid-cap, most had previously been in the small company growth fund category.

Mid-cap fund data released by Lipper for various periods ended March 31 showed an average total return of 3.2 percent for the quarter -- not much different than other general equity fund groups; 10.8 percent for the latest 12 months -- slightly behind small company growth funds but well ahead of others; and an annual rate of 16.7 percent for the last five years -- far ahead of other groups.

The group's average returns have tended to exceed those of three indexes that serve as benchmarks for mid-cap stocks: Russell Midcap 800, Standard & Poor's MidCap 400, and Wilshire Mid Cap 750. The mid-cap indexes, in turn, have led their large-cap siblings: Russell Top 200, S&P 500 and Wilshire Top 750.

"The market appears to want to reward companies that are neither too small nor too large but might be in . . . position to benefit the most from continued economic expansion," Wilshire vice president Michael J. Napoli, Jr. said.

How are mid-cap stocks and funds defined?

There is no consensus about where to draw the line between large and medium or between medium and small companies. Thus, there is no agreement about just what constitutes a mid-cap stock.

The market caps of the companies in S&P's MidCap Index range from $67 million to $8.1 billion (overlapping the 500). Spreads of the Wilshire and Russell indexes are narrower: from $0.4 to $1.7 billion and from $0.6 to $4.6 billion, respectively. The three median market caps are closer than the cap ranges suggest, running from Wilshire's $0.8 billion to Russell's $1.3 billion.

Under the circumstances, Lipper decided to classify as mid-cap funds those whose policies and practices indicate it limits investments to companies with market caps between $0.8 billion and the weighted average of the Wilshire 4500 Index (as captured by the Vanguard Extended Market Portfolio, which matches it) -- or around $2 billion.

Managements of some funds not classified as mid-cap asked to be included. Those of others that were designated as such asked to be reassigned. "The group is not yet shaken down," said A. Michael Lipper, president.

Of the group's funds with the stated objective of concentrating in mid-cap stocks, a few are managed to match the S&P MidCap Index, the oldest being Dreyfus' Peoples S&P MidCap Index Fund, which was launched days after S&P introduced its index in June 1991.

Vanguard, the leading index fund sponsor, has elected not to form a mid-cap index fund. Its Extended Market Portfolio is "essentially a proxy for the mid-cap market," Chairman John C. Bogle explained.

Among the group's leading performers, fund policies are more likely to call for investing in both small and medium-size firms or "emerging growth" companies than mid-caps alone.

Take $1.1 billion MFS Emerging Growth (closed to new investors). Portfolio manager John W. Ballen seeks firms with caps of $100 million-$200 million that are growing at 20 percent or more and that he can expect to retain as they become leaders in their industries.

"The more successful your stocks are, the more mid-cap you look," Ballen said.

Or consider $9 billion Twentieth Century Ultra Investors, which epitomizes what can happen to the median market cap of a fund that goes for fast-growing companies.

In 1990, when its net assets were around $300 million, its median market cap was around $500 million. As its performance attracted more than $5 billion from investors, its median cap has risen to $1.8 billion.

Unable to put all that cash to work only in small-cap companies, the management had to buy mid-cap companies that met its criteria.

A contrarian approach is taken by James E. Crabbe in running the $60 million Crabbe Huson Special Fund, whose median cap is $470 million.

"I want $1 billion companies whose stock prices have gone down for the wrong reasons," he said. "This market is made for us."

For the $600 million Legg Mason Special Investment Trust, manager William H. Miller III targets companies with caps under $1 billion, which he regards as small, that generate lots of free cash.

While not quarreling with Lipper's classification, marketing director Talbot Daley says he'll continue to advertise it as "the only small company growth fund to beat the S&P 500 six out of the last six years."

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