Those Sly Mutual Funds

By on June 10, 2006

Originally published on:

February 23, 1997

There is only one thing that can explain the market’s unrelenting advance. Foreign investors have finally discovered the U.S. stock market again. After being woefully under-invested in one of the hottest markets on the planet for the last few years, foreigners have jumped in with both feet. Multi-nationals such as Merck, Coca Cola, General Electric and Boeing continue to surge despite a strong dollar which will undoubtedly crimp their earnings. However, a mighty dollar makes investing in U.S. shares enticing because everything else being equal, foreigners’ U.S. stock holdings gain value as the dollar rises against their currencies.

Recent speculation has it that the Federal Reserve will raise interest rates in a couple of months due to the tightening labor market. This probably won’t occur since a stronger dollar makes foreign goods more competively priced and leads to subdued inflationary pressures. The prospect for lower long-term rates as the year progresses are very good.

Editor’s note: The Stock Market Advantage newsletter will move from a bi-weekly to monthly publishing schedule. The next issue will come out sometime early April 1997.

Those Sly Mutual Funds

Mutual fund companies may be using trickery to ensnare new investors. I’ve noticed newly introduced funds sporting very impressive performance numbers after their first couple of years of operation. One possible explanation for this uncanny outperformance is that fund companies may be using their larger funds to manipulate the price of stocks held in the new, smaller funds.

When a new fund is started the assets are very minimal compared to other funds within the fund complex. It would not be difficult for say a Fidelity or Janus, whose large funds have garnered billions of dollars in assets, to help out their “baby” funds and create a little extra incremental demand in their stock holdings.

Just say, for instance, the Janus Overseas fund with $100 million in assets holds, in its portfolio, stock in a small foreign bank. To improve the performance of the new fund, the upper echelons of the Janus organization could suggest the manager of the Janus Worldwide fund, with $5 billion in assets, buy stock in this same bank. This would create extra demand, and drive the bank’s stock price up and the performance numbers of the new Janus Overseas fund. In this case, the manager of the Janus Worldwide fund and the Janus Overseas fund are the same person (Helen Young Hayes), so upper management wouldn’t even have to be involved.

I have no solid proof that any manipulation is occurring, except that when looking through the 1996 annual report published by Janus, I noticed the Overseas fund holds many of the same stocks held in the Worldwide fund. Ms. Hayes has done an exceptional job with the Worldwide fund since it is regularly listed near the top of all global funds. So it is not that odd the Overseas fund was the top rated international fund last year with a return of 30%. Not surprisingly, given this publicity, Overseas’ assets grew from $110 million yearend 1995, to $770 million yearend 1996.

Another way that fund companies can play with the performance numbers and which is much more widely publicized is the practice of merging weak performing funds into stronger ones. This is perfectly allowable according to the SEC. This is a way for fund companies to bury their losers and the turn-off potential customers get when they see their weak numbers.

Portfolio Updates

Raymond James Financial, Inc. (NYSE: RJF; 33 7/8), held in the conservative portfolio, set a three-for-two stock split of its common shares. The split will increase the company’s total shares outstanding to 31.5 million. The company also raised its share repurchase authorization to 1.5 million shares, from 1 million. Pay date for the split is April 3, for shareholders of record on March 7. Unfortunately, an Oppenheimer analyst lowered the ratings on several brokerage companies including RJF which knocked off about 10 percent from its price in a couple of days.

Unilever NV (NYSE: UN; 191 7/8), held in the aggressive portfolio, rose significantly, boosted by a rise in profits and the planned sale of its specialty chemicals units. “Things are on the move and there is a lot of U.S. buying in the stock,” said Andrew Melinek, head of ADR research and sales at NatWest Securities. UN reported a 15 percent rise in annual profits, to $4.4 billion, and said it would sell its specialty chemicals units in a move expected to raise up to $8 billion.

Recommended Allocations
The recommended allocation for aggressive portfolios is 75% equities and 25% cash. The recommended allocation for conservative portfolios is 55% equities, 45% cash.

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