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Summary The large number of mutual funds has little to do with serving your best interests. Below are three red flags you can use to avoid the worst mutual funds. The following presents the least and most expensive style mutual funds as well as the worst overall style mutual funds per our Q4’15 style ratings. Question: Why are there so many mutual funds? Answer: Mutual fund providers tend to make lots of money on each fund so they create more products to sell. The large number of mutual funds has little to do with serving investors’ best interests. Below are three red flags investors can use to avoid the worst mutual funds: Inadequate Liquidity This issue is the easiest issue to avoid, and our advice is simple. Avoid all mutual funds with less than $100 million in assets. Low levels of liquidity can lead to a discrepancy between the price of the mutual fund and the underlying value of the securities it holds. Plus, low asset levels tend to mean lower volume in the mutual fund and larger bid-ask spreads. High Fees Mutual funds should be cheap, but not all of them are. The first step here is to know what is cheap and expensive. To ensure you are paying at or below average fees, invest only in mutual funds with total annual costs below 1.92%, which is the average total annual cost of the 5514 U.S. equity style mutual funds we cover. Figure 1 shows the most and least expensive style mutual funds. Rydex provides four of the most expensive mutual funds while Vanguard mutual funds are among the cheapest. Figure 1: 5 Least and Most Expensive Style Mutual Funds (click to enlarge) Sources: New Constructs, LLC and company filings Investors need not pay high fees for quality holdings. The Calvert Large Cap Core Portfolio (MUTF: CMIIX ) earns our Very Attractive rating and has low total annual costs of only 1.04%. On the other hand, the Fidelity Spartan Mid Cap Index Fund (MUTF: FSMDX ) earns our Neutral rating because it holds poor stocks. No matter how cheap a mutual fund, if it holds bad stocks, its performance will be bad. The quality of a mutual fund’s holdings matters more than its price. Poor Holdings Avoiding poor holdings is by far the hardest part of avoiding bad mutual funds, but it is also the most important because a mutual fund’s performance is determined more by its holdings than its costs. Figure 2 shows the mutual funds within each style with the worst holdings or portfolio management ratings . Figure 2: Style Mutual Funds with the Worst Holdings (click to enlarge) Sources: New Constructs, LLC and company filings Professionally Managed Portfolios appears more often than any other providers in Figure 2, which means that they offer the most mutual funds with the worst holdings. Our overall ratings on mutual funds are based primarily on our stock ratings of their holdings. The Danger Within Buying a mutual fund without analyzing its holdings is like buying a stock without analyzing its business and finances. Put another way, research on mutual fund holdings is necessary due diligence because a mutual fund’s performance is only as good as its holdings’ performance. Barron’s agrees . PERFORMANCE OF MUTUAL FUND’s HOLDINGs = PERFORMANCE OF MUTUAL FUND Disclosure: David Trainer and Kyle Guske II receive no compensation to write about any specific stock, style, or theme. Scalper1 News
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