New, but maybe not improved: Young funds have higher risks

Newfangled.

New-fashioned.

New and improved.Americans like new things, and that goes for mutual funds, too.More than 500 stock and bond portfolios have debuted in the last yearor so, each one tantalizing investors with the promise of a freshstart.Certainly, there may be some good reasons why you might want toinvest in a new fund, and other justifications for why you shouldn't.But is there evidence to support the idea that new funds performbetter than established portfolios?That was the question that researchers at Charles Schwab & Co. inSan Francisco tackled in - you guessed it - a new study. Schwabresearchers counted how many new domestic-stock funds debuted ineach of the last five years, and compared those figures with thenumber of new funds able to crack the annual list of 100 topperformers.If new funds do perform better, they should account for a higherpercentage of the top-100 portfolios, said Mark Riepe, a Schwab vicepresident who heads up the firm's Center for Investment Research.Indeed, that's what the study found. New funds on averageaccounted for 14 percent of all funds during the five-year period,yet they made up 22 percent of the 100 best performers.New funds that buy small stocks scored even more strikingresults. These portfolios represented just 4 percent of all funds,yet they accounted for 11 percent of the best performers.But do such results imply that you should jump into promising newfunds, especially those buying small companies? Not necessarily,said Riepe. His research pointed up two flaws to a new-fundinvesting strategy.The first problem centers around volatility. New fundsperformed better for the simple reason that they subjectedshareholders to greater risks. How and why they did this wasn'tclear, because researchers didn't have access to each new fund'sinitial portfolio holdings, which need not be disclosed at thecommencement of operations."It's probably due to the fact they buy more volatile stocks orconcentrate among fewer stocks," said Riepe.The second problem was easier to quantify: It involved the timingof when the higher returns were generated. Most of the superiorgains came only within the first six months after a fund waslaunched, and all of the above-average results disappeared after 18months."Since most of the outperformance occurs within the first sixmonths, the strategy wouldn't be practical unless you know when thesefunds will be launched and can get in quickly," said Riepe.With so many good, seasoned funds available, professionaladvisers have mixed views about new portfolios. John Eckel,president of Pinnacle Investment Management in Simsbury, Conn., likesnew funds in theory because they start out with a small asset base."This allows the manager to concentrate the portfolio and be moreflexible," he said.It's an especially important consideration for funds that focuson small stocks, he says.Nancy Coutu, president of Money Managers Advisory in westsuburban Oak Brook, says she is wary of the scores of new funds thathave relatively inexperienced stock pickers at the helm."New funds are wonderful as long as the managers are not new,"said Coutu, who favors managers who have delivered consistently goodreturns for at least five years.She cited some of the Artisan funds, run by former Strong managerCarlene Murphy Ziegler, as favorites.But even a formula of sticking with new funds launched by provenmanagers doesn't guarantee success. A case in point was three fundsintroduced at year-end 1995 by Garrett Van Wagoner, who had been atop-ranked small-stock manager with the Govett group.Unfortunately, Van Wagoner unveiled his funds shortly before aslide in small stocks, especially the types of technology issues thathe favors. Also, his thinly staffed company may have attracted moremoney from new shareholders than it could handle in such a shortspan."It was an absolutely ideal scenario" that, in retrospect, didn'tquite turn out that way, said Coutu.Russ Wiles is a financial writer and columnist for the ArizonaRepublic and author of How Mutual Funds Work (Prentice Hall, $15.95).Direct questions and comments to Russ Wiles, Business News, theArizona Republic, P.O. Box 1950, Phoenix 85001.