Which stock funds suffer the least damage when the market goes into a bad stretch?
The market’s short, sharp dip that began with the first day of autumn is a reminder to investors that they have to be thinking ahead. How will their funds do in a serious correction? How will they react when they see -20% on a brokerage statement?
Savers with 40-year horizons and steady nerves can put these questions aside. Everyone else should confront them.
A sad fact of the mutual fund industry is that the average fund buyer does much worse than the average fund. From Point A to Point B a fund delivers 10% a year, yet its average buyer earns only 8%. How is that possible? Bad timing. Investors tend to be lured into a fund after a stretch of glorious returns—near the top, that is—and then sell after a period of disappointment, near the bottom.
The vaccine against this disease is to be somewhat defensive with money you will need in 10 or 20 years rather than 40. To that end, I went looking for domestic stock funds with good long-term results and market-beating performance during downturns. I limited my attention to those with at least $50 million in assets.
A graph of a broad stock index suggests three up-and-down market cycles since the fall of 2002: from October 9, 2002 to March 6, 2009; from March 6, 2009 to February 9, 2016, and from February 9, 2016 to October 24, 2018. In the last cycle the down leg covers just over a month: from September 20 to October 24.
The overall trend over the three market cycles was strongly up. Had you owned the whole market via the Vanguard Total Stock Market Index Fund, you would have averaged an annual 10.4% for the full period of slightly more than 16 years, Morningstar calculates.
There were 979 mutual funds extant for the full 16 years. Thirty percent of them beat the Vanguard index fund, and these were the starting point for my survivors list.
A lot of these long-term winners, though, are very risky. They own high-flying stocks like Netflix and Tesla and benefited from the fact that, in the stretch from 2002 to 2018, risk was rewarded. So my next requirement was that a fund hold up better than most funds in bear markets.
With help from Morningstar’s statisticians, I filtered the list of long-term market beaters to a few dozen that suffered less than the usual amount of damage in corrections. Specifically, they would have left you with at least 10% more of your starting dollars than an index fund would have left you if you were, hypothetically, invested only during the three bear markets.
One more hurdle: reasonable expenses. My ceiling on annual fees was 1%.
What was left? An astoundingly tiny group. I found 13 only funds that qualify.
Leading the pack in how well it survived bear markets is Vanguard Dividend Growth. Here is proof that you can get good active management without paying dearly; the fund’s 0.26% expense ratio is a fourth that of the median mutual fund in the Morningstar database. The fund is heavy on consumer blue chips like Nike, MacDonald’s and Coca-Cola; it also has big positions in TJX, Microsoft and Union Pacific.
If you own this Vanguard fund, hang onto it. If you don’t, you’ll have to wait. It is currently closed to new investors.
Another strong bear-market showing is from Parnassus Core Equity, with a portfolio led by CVS Health, Walt Disney and Linde. That fund’s entrance door is still open.
Fidelity Focused Stock did better than either the Vanguard or the Parnassus fund in long-term return, but it accomplished that feat more by delivering exciting results in good markets than by preserving your capital in bad ones.
The stock market has been very good to investors during this century, at least after it recovered from the Internet bubble. The 10.4% return was made possible by global expansion, falling corporate taxes, falling interest rates and weak wage growth.
Will the good times continue on Wall Street? They might, but it would be unwise to count on that. Don’t buy a fund without observing its behavior in bear markets.
The table’s tickers link to pages in the Morningstar library. There you’ll find portfolio analysis, information on yield, management and tax burdens and details on the different share classes. (The expense ratios shown in my table are for the most expensive share class; you may qualify for a better deal.) Some of what Morningstar offers is only for subscribers, but a lot of it is free.
William Baldwin’s philosophy is that it is hard, but not impossible, to beat the market, and that it is easy, and imperative, to save on taxes and money management costs. He graduated from Harvard in 1973 with a degree in linguistics and applied math. He has been a journalist for 40 years, and was editor of Forbes magazine from 1999 to 2010. Tax law is a frequent subject in his articles. He has been an Enrolled Agent since 1979.
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