Issue 8 • January 21, 2009

To Stay Ahead of the ‘Dow Joneses,’
Avoid the ‘Blundering Herd’

As bad as 2008 was for the major stock market indexes...it was REALLY awful for the big mutual fund managers.

In fact, data from Morningstar shows that the nation’s 100 biggest equity funds (by assets) UNDER PERFORMED the S&P 500 Index by a WIDE margin in 2008.

While the blue-chip stock index fell 37% last year — the most since the 1930s — the median return for the largest 100 stock funds was even worse at -39.2%. Thirty-eight of the largest 100 funds were down more than 40% last year, and four funds plunged over 50% in value!^[I]

At Weiss Capital Management, we are very pleased and proud of the fact that the performance of our separately managed account strategies, by comparison, fared considerably better last year — with most of our programs outperforming their respective benchmarks during 2008.

Earning Consistent Returns is Key

The startling underperformance of actively managed mutual funds is not a new story, however. Mutual fund returns have routinely trailed the Dow Jones, S&P 500, and other major indexes for decades. Sure, there are a handful of funds each year that do better, but these “one-year wonders” tend to be inconsistent from year to year, with the “leader board” names changing rapidly.

In my view, consistency in returns is more important to your investment results over time than earning exceptional gains in any one year. All too often, one year’s big mutual fund return is followed by disappointing results a year or so later. In other words, too many funds end up giving up much of their big gains in bear market years, such as in 2008.

Legendary Fidelity Fund manager Peter Lynch has long cautioned against the chronic under performance of mutual funds — he referred to institutional fund managers as “the blundering herd” and cautioned investors NOT to blindly follow this herd mentality.^[II]

It’s been said that many “active” fund managers are really “closet indexers” in disguise. They own so many of the same mega-cap stocks that their funds end up looking and acting a lot like the S&P 500 Index itself. So, when you subtract management fees and expense, these funds are practically destined to fall behind the index.

Most Funds Go “All In,” All the Time

What’s more, the vast majority of all equity funds are always fully invested, all of the time, regardless of what’s happening in the markets. In fact, it’s rare to find a fund that keeps more than 2% to 5% in cash at any one time. Fund managers assume that shareholders are long-term, buy-and-hold investors. So they keep all of your money in the game at all times — no hedging and no extra cash cushion, that’s the name of the game for most mutual funds.

That strategy works fine in UP markets... but not so well when markets go DOWN.

When you consider these factors, it’s not surprising that 66% of the largest stock funds trailed the S&P 500 Index last year — many by a very wide margin.^[III]

A Smarter Way to Invest

At Weiss Capital Management, we believe that active money management means strategically changing your allocation to: stocks, bonds, commodities, cash and other asset classes as market conditions warrant.

Our portfolio managers are free to raise substantial amounts of cash in their programs, and use hedging strategies to potentially earn gains even in declining markets. By using these techniques, rather than being fully invested all the time, our aim is to reduce risk for our clients — particularly in a bear market environment.

I think it’s a smarter way to invest — in both good times and bad.

To learn more about our investment philosophy, including the moves we are making right now to help protect and possibly grow our clients’ wealth in today’s volatile markets, we’re holding a special online video briefing next week:

Crisis, Consequences & Opportunities:
Weiss Capital Management’s 2009 Outlook

Presented by the Weiss Capital Management Investment Committee, this event will focus on our market outlook for 2009 and beyond. We’ll also discuss specific investment strategies with the potential to protect and grow wealth in this turbulent environment.

As a Weiss Advice subscriber, you’re invited to attend this important briefing, FREE of charge, by clicking on this link to register in advance. What you learn could help protect and potentially grow your wealth in 2009 and beyond!

Good investing,

Mike Burnick
Director of Research & Client Communications
Weiss Capital Management, Inc.

^[I] Morningstar Direct: Mutual Fund Performance Review, 12/31/08
^[II] Peter Lynch, “Besting the Blundering Herd”, Worth Online, Jan. 1993
^[III] Morningstar Direct: Mutual Fund Performance Review, 12/31/08