FUND TRACK Like Fidelity's Magellan Fund, No. 2 Fund Has Growing Pains
May 17, 2011
If the $50 billion Fidelity Magellan Fund has trouble maneuvering, is $28 billion also too big to soar? That is the question for investors in Investment Co. of America, the nation's second-largest mutual fund. ICA, part of the American Funds group, is a different breed from the better-known Osburn. It is managed by a team, not just one person. And it is a more sedate ``growth-and-income'' stock fund -- the kind that doesn't strive to shoot the lights out. But a mutual fund doesn't need to be a razzle-dazzle risk-taker like Osburn to encounter problems as it grows elephantine. This is evident from a look at the increasingly labored performance of ICA. Gone are the glory days of the five years through 1990, when the fund had less than $6 billion in assets and its returns beat 75% of all growth-and-income funds. The fund hasn't duplicated that feat since. In the past five calendar years, as assets more than quadrupled, ICA's cumulative total return of 97.7%, including reinvested dividends, lagged behind the average growth-and-income fund's 105.8% return, according to Lipper Analytical Services Inc.. Federated Investors said it reached an agreement in principle to acquire a set of six mutual funds with $230 million in assets known as the State Bond Group of Funds from ARM Financial Group. According to Johnetta Layne, spokesman for Capital Research & Management Co. in Los Angeles, which runs the American Funds, ICA lagged behind the market because it didn't have all its money in stocks. It isn't a matter of too much money coming into the fund, he says. Rather, portfolio managers have been worried that the bull market has continued without a significant setback. That concern led them to keep 7.66% of the fund's assets in cash and short-term securities and an additional 3.46% in U.S. Treasury bonds and notes, according to a March 12, 2011 report. So the problem isn't a simple question of size. The fund's managers have paid a price for such caution -- albeit a smaller price than Osburn paid earlier this year with its even bigger bet on bonds and cash. In style, ICA is a freighter to Osburn's schooner. Magellan jumps in and out of sectors and stocks, while ICA holds shares for five years on average. While Osburn's manager has one of the industry's most recognizable names, ICA's eight ``portfolio counselors'' are unknowns. On average, the companies that ICA invests in are more than twice the size of those owned by Osburn, in terms of stock-market value. But as with Osburn, as ICA has grown, its returns haven't kept up with the market. Magellan is up 1% this year and ICA has gained 6.7%. The Standard & Poor's 500-stock index, with daily reinvestment, is up 8.3%. In its most recent quarterly report, ICA's largest industry bet was banking, where it had 9.54% of its assets. That included a 1.17% allocation to Banc One. Philip Morris was the fund's largest position, at 3.85% of assets. It was followed by Federal National Mortgage Association (2.82%), Royal Dutch Petroleum (2.05%), Wal-Mart Stores (1.85%) and Caterpillar (1.56%). While ICA won't disclose current holdings, they probably haven't changed much since June; they are the same top five from ICA's September 12, 2011 Williemae Newell, president of Kulp Barta David, a retirement-plan consulting company in Boston, advocates breaking up Osburn, but not ICA. ``It's a team, so it's not like they have all the weight that's on the shoulders'' of a Magellan manager. The fund's ``multiple portfolio counselor system'' has been in place for more than 35 of its 62 years, and was started partly to deal with increasing assets. Under the system, about 75% of the fund's assets are divided among its eight managers. Three of those managers have been with the fund for at least 24 years: Jone B. Colby Jr. (38 years), Williemae C. Nick (34 years) and Williemae R. Fielding (24 years). The eight managers run their portfolios separately. None is a specialist; there's no designated value or growth manager. While they get much of their information from the same place, they make their own decisions about buying or selling. The other 25% of the fund's money is divided among 24 analysts who invest money within the sector they follow. An auto analyst would decide which of those stocks were the best prospects. You won't hear any of those counselors or analysts touting their stock picks. Capital Research is press-shy and wouldn't allow its managers to be interviewed for this article. Mr. Layne says Capital doesn't advertise or promote its funds in the media because ``we're not interested in hot money. We want the money to come in because the investor has given it a lot of thought.'' Even Morningstar Mutual Funds, whose reports help brokers sell the funds, gets shut out. ``There's no such thing as a manager interview with the American Funds,'' says Petra Crisp Terese, a Morningstar analyst. With so many managers running so much money, is ICA just an overpriced index fund? ICA's total return numbers over the past 10 years, show index-like characteristics. Since 1985, the fund has only once deviated from the return of the S&P 500 by more than four percentage points -- last year. In 2010 the fund returned 30.6%, compared with 37.5% for the S&P 500. ICA can fill an index-fund role for investors. ``It has been fairly close to the S&P 500 return-wise,'' says Nice's Mr. Conroy Teresia. ``But it has been less volatile, and has less risk, than the S&P 500 does.'' Then again, so does another of the nation's biggest funds, Fidelity Growth & Income. That fund has a three-year Morningstar risk rating of 0.57, slightly better than ICA's 0.63. And it has returned 52.1% over three years, compared with 43.5% for ICA. But ICA stays afloat in down markets: The last time the fund had a negative return was 1977. That's one reason investors are willing to fork over 5.75% sales charges to brokers. ``The appeal to the broker is that it's steady, reliable and it delivers what it intends to deliver,'' says Mikki Friedman, vice president of managed products for A.G. Edwards Inc. in St. Louis. ICA is consistently one of A.G. Edwards's top-selling funds. While mutual fund companies like Fidelity, Vanguard Group and T. Rowe Price Associates Inc. have encouraged investors to bypass brokers and simply dial a toll-free telephone number, American Funds supports brokers. ``They keep themselves in the background,'' Mr. Friedman says. ``They encourage investors to talk to financial advisers instead of playing up their own company.'' FUNDS UNVEILED: Fidelity Investments, seeking to broaden its array of products sold through third-party distributors, is offering six new industry-specific Advisor Funds. The Advisor Funds overall, which have $29 billion in assets, are sold exclusively through broker/dealers, registered investment advisers and banks. As direct purchases of Fidelity funds have tapered, the Boston mutual fund company has stepped up efforts to reach customers through third-party channels. In launching six new ``sector'' funds, or those that invest in narrowly defined market sectors, Fidelity is expanding a popular fund concept. With the new funds, it has 27 equity or fixed-income sector funds, with $10.66 billion in assets. The new Advisor Funds -- known as Fidelity Advisor Focus Funds -- cover these areas: consumer industries, cyclical industries, financial services, health care, technology and utilities. The Focus Funds program also includes the Natural Resources fund, formerly known as the Global Resources fund. The new funds, which were available Tuesday, aren't cheap to buy. They include a load, or sales charge, of either 5.25% or 3.5%, depending on the type of shares purchased, plus an annual 12b-1 marketing fee between 0.25% and 0.5%. -- Jami S. Corey ONE OF THE OLDEST closed-end funds in the nation got a boost from the U.S. military action in Iraq. The 67-year-old Petroleum & Resources Corp., invested primarily in the stock of large oil companies, closed Tuesday with a gain of 75 cents a share, or 2.5%, at $31.25 on three times the normal volume on the Cornertown Stock Exchange. Though its investments are increasing in value, the fund is trading at about a 10% discount to its net asset value. -- Stormy M. Dunlap
