(PUB) Morningstar FundInvestor

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Morningstar FundInvestor

August 2 013

Popular Funds With Neutral Ratings Red Flags | David Kathman

among the best in the conservative-allocation cate- gory. That record has earned the fund 4 stars, but only an Analyst Rating of Neutral because of its short track record and a strategy that relies heavily on high- yield bonds. Ivy High Income WRHIX also has $ 8 . 0 billion in assets, including $ 2 . 2 billion in inflows in the past year. Its relatively aggressive approach has given it some of the best five-year returns in the high-yield bond category, but also more credit risk than its average peer, so investors should beware of its downside. Manager Changes Other funds with big inflows have Neutral Analyst Ratings because the manager responsible for their great performance has recently left. That’s the case for the $ 6 . 7 billion T. Rowe Price Health Sciences PRHSX , whose top-decile 10 - and 15 -year returns have earned it 5 stars and nearly $ 1 billion in recent inflows. Longtime manager Kris Jenner left in February along with two experienced analysts. It remains to be seen whether new skipper Taymour Tamaddon, previously an analyst on the fund, can maintain Jenner’s sterling record, but the fund has continued to attract inflows since Jenner left, suggesting that investors aren’t too worried. Similarly, Chad Meade and Brian Schaub of Janus Triton JATTX left in May after putting together an excellent long-term record that attracted $ 1 . 1 billion in inflows over the past year and earned the fund 5 stars. New manager Jonathan Coleman is experi- enced, but his mediocre recent track record at Janus Fund JANSX makes this fund’s future much more uncertain. However, some investors have noticed the change. The fund saw $ 62 million in outflows in June. œ Contact David Kathman at david.kathman@morningstar.com

Investors have flocked to certain types of funds in recent years, but they haven’t always been as dis- criminating as they could be. Yield-heavy funds have attracted lots of assets, which is understandable given the current environment of low interest rates, but it’s a mistake to buy a fund based simply on its yield. Nor is it smart to buy a fund having a great track record without making sure that the manager behind that track record is still around. Here are some funds that have attracted big in- flows of at least $ 1 billion over the past year (from June 2012 to June 2013 ) but have Morningstar Analyst Ratings of Neutral. That means they don’t stand out from their peers, or they combine some positive features with significant negatives. Yield, but With Risks Lord Abbett Short Duration Income LALDX has ballooned in size from $ 116 million in late 2007 to $ 32 billion today, including inflows of $ 10 billion in the past year. A big factor in that exponential growth has been the fund’s stellar five-year returns relative to the short-term bond category, which it has achieved with a strategy that favors bond sectors having healthy yields and above-average credit risk. That strategy has worked about as well as possible over the past few years, but it has made the fund vul- nerable to losses when credit risk gets punished, which tends to happen every five to 10 years. That risk, along with some turnover in the ranks of the credit research team supporting the fund, led us to assign a Neutral Analyst Rating. Several Neutral-rated funds in other categories have also attracted lots of assets quickly with yield- focused strategies that come with attendant risks. Principal Global Dividend Income PGBAX is now an $ 8 . 0 billion fund after attracting $ 3 . 6 billion in the past year, thanks to a three-year record that’s

What is Red Flags? Red Flags is designed to alert you to funds’ hidden risks. Such risks can take many forms, including asset bloat, the departure of a solid manager, or a focus on an overhyped asset class. Not every fund featured in Red Flags is a sell, and in fact, some are good long-term holdings. But investors should be prepared for a potentially bumpier ride in the near future.