No matter what system of labeling is used, the name of a mutual fund can still fool an unwary investor.
Take the bland-sounding category of mid-capitalization, or “mid-cap,” growth funds, which have been putting up some sparkling performance numbers lately.
The term mid-cap may suggest a happy-medium style, focusing on stocks that combine youthful promise with seasoning you don’t find in small companies. A compromise of sorts.
But there’s nothing middle-of-the-road about many of the 400-plus mid-cap growth funds now in business, comprising some $240 billion in assets. They take an aggressive approach to the game.
Morningstar Inc.’s average of mid-cap growth funds gained 64.5 percent in 1999 and another 16.9 percent in the first quarter of this year, beating all other broad categories of stock funds in both of those periods. (Freudian slip: In writing this paragraph I typed “mad-cap” the first time through.)
“What’s driving those spectacular numbers? Tech, tech and more tech,” said Kelli Stebel, a Morningstar analyst. With 43 percent of their money in computer, telecommunications and electronics stocks, mid-cap growth funds have a heavier technology weighting than any other category, Stebel said.
So it’s no surprise that when the tech stocks took a dive this spring, most mid-cap funds went with them. The $800 million Northern Mid-Cap Growth Fund, which had jumped 90 percent last year and another 51 percent through March 9 this year, fell back 34 percent in the next two and a half months.
At its peak, about 65 percent of the fund’s money was in “technology” stocks, according to manager Ted Breckel. After the tech short-circuit, it got as low as about 45 percent, then bounced back above 50 percent by early May.
While the fund is just two years old, Breckel has been analyzing stocks and managing money for its management firm, Northern Trust Co. of Chicago, since 1968. He says his taste for tech arises not out of some personal enchantment with the category, but because that’s where the revenue and earnings growth is and the stock market momentum, at least until recently.
“It’s very important to me to be invested in stocks that other people want to own,” he said. “I’m not going to become a value manager. I’m still willing to pay high price-earnings ratios when I think the fundamentals are there.”
What constitutes a “mid-cap” stock depends on who’s doing the defining. By one rule of thumb, it’s stocks with total market values of between $1 billion and $10 billion. Or you can take the middle one-third of stocks, ranked by size, out of a broad-based market index.
Luckily perhaps, mid-cap managers have found themselves right where the action was. In the buying frenzy over the past few years for Internet stocks, a tiny company as measured by sales or assets could achieve mid-cap standing in a very short time sometimes the day of its initial public offering.
Mid-cap partisans say this is no accident. “In general, mid-caps are more focused than large-caps,” says David Felman, manager of the $4.2 billion Fidelity Mid-Cap Stock Fund, in Fidelity’s Mutual Fund Guide magazine. They offer “more of a pure play on your idea.”
Within the mid-cap category, though, there’s plenty of room for variation in style and philosophy from one fund to the next. In one recent tally of Morningstar data on mid-cap funds, the choices ranged from Pin Oak Aggressive Growth Fund, with 76 percent of its money staked on tech, to the Baron Asset Fund, with a 3 percent tech weighting.
“Many Internet stock valuations are not easily justified,” says Ron Baron, manager of Baron Asset. But “Baron has substantial investments in businesses that use technology to achieve long-term competitive advantages.”
One simple way to gauge how much excitement you’re letting yourself in for with any mid-cap fund is to scrutinize its ups and downs over the past year. A better idea as with any fund to which you’re going to entrust your money is to look closely at the contents of the package before you take it home.
Chet Currier is a columnist for Bloomberg News.
