Fund Observer

Large-growth stock funds are typically a rather aggressive asset class. Investors will find funds in this category that double in value one year then lose a third of it in the next. Navigating this large asset class can be tricky, but there are large-growth funds that perform well in up markets and do a decent job protecting against the downside.

[Use our Mutual Fund Score to find the best investments for you.]

These funds should generally be reserved for younger investors with a long time horizon because at times their returns can be volatile. “In the long-term, they may offer a little better returns potentially but also more downside risk in the short term,” says Morningstar analyst David Kathman. If you’re nearing retirement and your primary goal is preservation of capital, Kathman says these funds may not be for you.

To understand the up-and-down nature of the category, it’s important to examine the types of companies that managers generally choose. They are stocks of large, well-established companies that are generally growing their earnings faster than other companies in the same industry. Generally, growth stocks are considered more risky than value stocks, which are shares of companies that are believed to be undervalued and therefore good long-term investments.

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The mutual fund industry is always evolving, and the authors of a new book titled, The Mutual Fund Industry: Competition and Investor Welfare, say it has become a highly competitive industry. They reviewed studies that eventually became the basis for legislation like the Investment Company Act of 1940 that concluded that price competition didn't exist in the mutual fund industry. Over time, the authors argue, the industry has changed dramatically, and they believe the older studies are no longer relevant. They concluded that average investors have plenty of options to choose from and increased competition has led to lower fees on average. U.S. News caught up with Stanley Ornstein, one of the book's co-authors and vice president of Analysis Group, to get his take on the state of the mutual fund industry. Excerpts:

[See U.S. News's list of the Best Mutual Funds for 2010, and use our Mutual Fund Score to find the best investments for you.]

What prompted you to write this book?

Analysis Group was contacted by some investment advisory firms five or six years ago that were facing some of these lawsuits, and they asked us to do a study of the mutual fund industry. … We were struck by the fact that the basis for this law was based on mutual fund data in the 1950s and '60s, and the mutual fund industry had changed so drastically since that time we felt the conclusions reached at that time could very well be no longer applicable today. In the early '60s there were about 100 mutual funds. Today, there's more than 8,000 mutual funds. Maybe there were 50 investment advisers [in the 1960s]. Today there's about 600. … That's the motivation for doing the book.

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As the global economy digs out of the financial crisis, investors may be wondering where in the world to put their money. For fixed-income investors, world bond funds offer diversification with investments in a broad range of different countries and sectors, mitigating the risks involved if some countries default on their debt.

[See U.S. News’s list of the Best Mutual Funds for 2010 and use our Mutual Fund Score to find the best investments for you.]

The Federal Reserve on Wednesday ended its massive mortgage buying program, fueling a rally in the bond markets and attracting investors. But some experts think the rally might be over. “I think it remains to be seen what the effect is, but so far, so good,” says Ken Buntrock, co-manager of the Loomis Sayles Global Bond Fund. “This is just one of several programs that the government did, and they’re slowly withdrawing this liquidity from the marketplace.” If the economy and housing markets recover, the Federal Reserve could raise interest rates—but that won’t be until at least the beginning of 2011, Buntrock says. In Europe, the situation is more dire. Greece and Portugal have seen their debt downgraded, and there are even concerns that the European Union and the International Monetary Fund will have to bail Greece out so that the country doesn’t default on its debt. The amount of sovereign debt—or debt issued by governments—is a growing concern in many developed nations.

[See How Greece’s Debt Crises Affects America.]

If investors buy bond funds that exclusively focus on the U.S., they may be missing out on opportunities elsewhere. “Global bond funds can be a very important piece of your portfolio because you’re going to get exposure around the globe for various types of growth, wherever growth might occur,” says Andrew Gotfried, director of mutual fund research for Raymond James. “We like global bond funds because to go and get the fixed-income vehicles around the globe individually is very difficult for the average investor, and the global bond fund is a great vehicle to get that kind of exposure.”

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