Managers' overlap investments too much Investors get duplication among so-called choices

Mutual funds

October 04, 1998|By Bill Barnhart | Bill Barnhart,CHICAGO TRIBUNE

You might be worried if you found out that your equity mutual fund held more than 20 percent of its assets in a single stock. For many investors, that's putting too many eggs in one basket.

But investors who seek extra diversification by owning several mutual funds often unknowingly do the same thing.

In recent years, the stock market has rewarded fund managers who have selected a relatively few stocks -- notably giant brand-name stocks such as Dell Computer Corp., Merck & Co. and Microsoft Corp. As a result, more and more performance-driven fund managers are crowding around fewer and fewer stocks.

The result is an investment overlap among mutual funds that is as difficult to detect as it is injurious to diversification.

Bill Chennault, an administrator at Kansas City, Kan., Community College, wrestled with this problem over the past several years and is now selling a CD-ROM solution he calls Overlap.

"Using some poor English, it's the measure of the identicalness of any two open-end mutual funds -- how much are these two funds the same?"

For example, investors often buy a growth stock fund and an equity-income fund believing that the objectives implied in the fund names provide diversification -- a capital-gains orientation against a dividend-income orientation.

Nonetheless, there was a 38 percent overlap between the stock holdings of the Janus Fund, a popular growth fund, and the Janus Equity Income Fund, according to the latest Overlap report. The Fidelity Growth Company Fund and the Fidelity Equity Income Fund overlap to the extent of 21 percent of their holdings.

That means investors are paying money managers separate fees to buy the same stocks for a significant portion of the combined portfolio.

Chennault defines overlap between funds as the lesser of the two holdings. For example, if Fund A held 5 percent of its assets in International Business Machines Corp. and Fund B held 2 percent of its assets in IBM, the overlap percentage would be 2.

The data indicate that overlap is especially common within fund families, despite distinctions in names and advertised investment objectives. This circumstance is especially apparent among the Denver-based Janus funds, a company known for its collegial investment management style.

Looking at all the possible two-way combinations of 12 Janus funds in the Overlap database, including domestic and overseas funds, the average overlap is 19 percent, and it is as high as 66 percent between the Janus Overseas Fund and the Janus Worldwide Fund.

Chennault also detects considerable overlap among managers following similar investment styles, such as growth.

Looking at 10 of the most popular large-capitalization growth stock funds -- each from a different fund family -- the average overlap of any combination of two funds is 23 percent and it reaches as high as 39 percent between the Putnam Investors A fund and the IDS New Dimensions A fund.

"I'm convinced that in the growth funds, there's probably 1,000 stocks that these growth fund managers buy and sell into, and the amount of overlap among growth funds is probably the highest of any category, other than the single-industry type of funds," he said. "These guys all went to the same schools, they read the same books and they take each other's advice."

Any performance advantage among these funds is probably an accident.

The diversification-killing overlap persists over time, even at funds with high turnover rates, Chennault has found. In effect, many funds are churning the same stocks back and forth, passing on to investors the cost of trading and the risks of reduced diversification.

Chennault's system does not disclose the names of stocks that overlap between any two funds. Moreover, significant time lags exist in fund disclosure of equity holdings, so the Overlap figures are best used as a general guide to investors.

The data, which sell for $158 a year for quarterly updates and $56 for a single report, provide a list of all funds that have, say, 20 percent or more overlap with any individual fund you select, providing information on what combinations to avoid in your quest for fund diversification.

Pub Date: 10/04/98

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