These fund categories are lagging in the bull run

Energy, real estate and small-cap value funds have struggled this year compared to other categories

Oct 25, 2017 @ 2:00 pm

By John Waggoner

You're supposed to buy low and sell high. How does that work for mutual funds and ETFs? It's a starting point, not a strategy.

Last year's stock laggards have become this year's leaders. Funds that invest in India, for example, gained just 0.65% last year, according to Morningstar; they're up 35.01% this year. Similarly, U.S. large-cap growth funds rose just 3.23% in 2016, and they have jumped 22.21% this year.

The laggards in this year's remarkable bull market include:

• Equity energy, down 13.95%, and energy limited partnership funds, down 9.77%. Both sectors have been dragged down by flat – but historically low – oil prices.

• Real estate, up 4.2%, still digesting average gains of 28.03% in 2014, and dogged by declining retail brick-and-mortar stores.

• Small-cap value funds, up 5.69%, and dwarfed by the outsized gains of the giant FAANG stocks – Facebook, Amazon, Apple, Netflix and Google.

The problem is that losing sectors can remain in the doghouse for a long time. Equity precious metals funds – gold miners, mainly – have gained just 7.81% this year, but have averaged an 11.98% loss the past five years. Equity natural resources funds have lost an average 5.07% the past five years.

"If I had to choose, I'd rather shop on the list of laggards than on the list of winners," said Russel Kinnel, Morningstar's director of mutual fund research. "Value is a discipline that keeps you going in a direction you normally wouldn't go."

Another approach would be to look at funds with the largest outflows the past 12 months. Typically, this doesn't mean that managers took stupid pills: It means that their approach is out of favor. This has been particularly true of growth funds. "People have been selling large-cap growth funds for a decade, and collectively, that has been a disaster," Mr. Kinnel said.

The trend has continued the past 12 months. Fidelity Contrafund (FCNTX) for example, has seen estimated net outflows of $16 billion the past 12 months, according to Morningstar. The fund has soared 27.45% this year. Similarly, the American Funds Growth Fund of America (AGTHX) has watched a net $5.9 billion hit the exits: It's up 20.05%.

Obviously, neither buying laggards or buying heavily redeemed funds is a guarantee of success. But if you're looking for ideas, it's best to remember that the last will often become first in mutual fund rankings. Just not always.

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