News Analysis
BusinessWeek.com
February 24, 2006
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Smart Steps for Young Investors

By Marc Hogan

Jump-Start a Lifetime of Saving

For those just launching their working lives, target-date lifecycle funds are as easy as they sensible

Young people have plenty of excuses for not saving. They face mountains of debt, settle for shabby workplace benefits, and endure a high cost of living (see BW, 02/06/06, "Up Against It at 25").

One way to get started saving is a lifecycle fund, which helps simplify investing for the long term. Rather than fretting over that long list of unfamiliar fund names and indexes, investing newbies can estimate their retirement date and pick a lifecycle fund that matches. "It's one-stop shopping," says Don Cassidy, senior analyst with fund-tracker Lipper.

Over time, target-date lifecycle funds automatically shift their underlying holdings from stocks to bonds, becoming more conservative as investors age. Sure, well-heeled investors can hire financial advisers to do this, but that's probably not an option for someone just starting out. Ideally, lifecycle funds let novice investors maintain a diversified portfolio that's right for their time horizon -- without heavy lifting (see BW, 07/26/04, "Funds That Adjust As The Years Go By").

WASH AND WEAR.   Young people actually tend to be too cautious when it comes to investing. Workers in their 20's allocate less of their 401(k) balances to stocks than thirtysomethings do, according to a Hewitt Associates (HEW ) survey. Target-date funds avoid such misguided prudence, which can result from sticking with an ill-fitting default investment like a stable-value fund.

Lifecycle funds not only let shareholders drive hands-free, they also eliminate the need for regular tune-ups. Investors of all ages usually forget to adjust their portfolios anyway. From 2000 to 2004, only 40% of participants in 401(k) plans made a single change to their accounts, according to Hewitt. Financial advisers recommend rebalancing at least once a year, a task lifecycle funds handle without requiring any effort from investors.

And these autopilot investments are catching on. Assets in lifecycle funds with target dates nearly doubled in 2005, rising to $70.1 billion from $43.8 billion at the end of 2004, according to Financial Research Corp. More than one in five 401(k) participants in their 20's hold some kind of lifecycle fund, according to Hewitt.

IN THE MIX.  Vanguard, Fidelity, and T. Rowe Price top some analysts' lists of the top lifecycle fund providers. However, 401(k) plans usually have limited choices. It's important to have confidence in the fund family because nearly all lifecycle products are "funds of funds" investing in other mutual funds run under the same roof.

Each provider constructs its lifecycle funds differently. The Vanguard Target Retirement 2045 Fund (VTIVX ) holds just four index funds, while the Fidelity Freedom 2040 Fund (FFFFX ) uses 22 actively managed funds. The T. Rowe Price Retirement 2045 Fund (TRRKX ) invests in a mix of one index and nine active funds. "Investors need to be comfortable with the way the funds are assembled and managed," says Philip Edwards, managing director of Standard & Poor's Investor Services.

SOME CHOICE INVOLVED.  Lifecycle funds also differ when it comes to cost. Vanguard's offering has the lowest expenses, but Fidelity and T. Rowe Price (TROW ) are competitive after fee waivers, Edwards says. Some companies layer an additional management fee for lifecycle funds on top of the costs of their underlying holdings, but these three providers do not.

Asset allocations vary, too. Vanguard's 2045 fund kicks off with 90% in stocks, while T. Rowe's version is close behind with 87% in equities. By comparison, the Fidelity Freedom 2040 Fund starts with 70% in equities. Someone with a family history of longevity may prefer a more aggressive fund, but investors should also be sure they're comfortable with the potential risks involved.

Lifecycle funds are most appropriate for people who won't want to sweat those details. The key point to remember is that lifecycle funds are intended as an all-in-one portfolio that can be held until retirement. "You could argue that lifecycle funds are the ideal investment for 401(k) investors throughout your lifecycle, given their broad diversification," says Steve Utkus, a principal with the Vanguard Center for Retirement Research.

BUY 'EM, HOLD 'EM.  For investors just starting out, lifecycle funds should usually be their only investment. Adding other investments makes sense later, as they grow savvy. Some financial advisers suggest rounding out the portfolio with alternative investments, such as real estate, which typically aren't available in lifecycle funds. An exception is Barclays Global Investors, which recently added Real Estate Investment Trusts (REITs) and Treasury Inflation Protection Securities (TIPS) to its LifePath lineup.

A potential pitfall is unloading the fund after a period of low returns. Lifecycle funds are supposed to be a long-term investment, and investors should plan to buy and hold. "The trick is, don't mess with it," says Frank McKinley, a New Jersey-based financial consultant.

Another thing to consider is these one-size-fits-all funds may not coincide with your risk tolerance. What's more, you could also miss the chance for greater returns in other investments, because it's unlikely a single fund company excels in all the asset classes that go into a lifecycle portfolio.

THE TIME IS NOW.  To avoid confusion, investors should be aware that not everything labeled as a lifecycle fund has a target date. Some lifecycle funds are "risk-based" and don't change their asset allocation at all. Instead, they're tailored for an investor's risk tolerance, ranging from conservative to aggressive. Most 401(k) plans provide only one type of lifecycle fund, either target-date or risk-based.

Young investors should look for a target-date lifecycle fund, so that it can grow and adjust as they age. They only have to remember to get started.

Self Portrait

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Pitchfork
February 20, 2006
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News Article
BusinessWeek.com
February 16, 2006
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Stocks Climb on Profits, Housing News

Hewlett-Packard reported 30% higher first-quarter earnings. January housing starts beat expectations by a wide margin

Stocks pushed higher in the final hour Thursday, as investors digested solid high-tech earnings reports and a flurry of economic news. Fed Chairman Ben Bernanke's comments to the Senate, like his testimony before the House Wednesday, yielded no surprises, says Standard & Poor's MarketScope.

The Dow Jones industrial average rose 61.71 points, or less than 0.56%, to 11,120.68. The broader Standard & Poor's 500 index added 9.38 points, or 0.73%, to 1,289.38. The tech-heavy Nasdaq composite index climbed 18.2 points, or 0.8%, to 2,294.63.

The session's strong economic data may be deceptive, some analysts say. "In a very warm January, one cannot read anything into the underlying health of the housing market from the strength of housing starts," says John Ryding, chief U.S. economist for Bear Stearns. January housing starts rebounded 14.5% to a whopping 2.3 million units, handily exceeding expectations.

Upbeat quarterly results appeared to be boosting sentiment Thursday. Hewlett-Packard (HPQ) rose 7% after posting 30% higher first-quarter profits late Wednesday. Credit Suisse upgraded the computer maker from neutral to outperform. After the close, rival Dell (DELL ) posted higher fourth-quarter EPS of 43 cents, up from 26 cents and above targets.

Applied Materials(AMAT ), which makes chip equipment, ended more than 2% lower. The company said orders will rise as much as 20% this quarter from the period ended Jan. 29.

In retail, JC Penney (JCP ) posted 66% higher fourth-quarter earnings. Target (TGT ) said its fourth-quarter earnings rose 14 percent, modestly above expectations.

XM Satellite Radio (XMSR ) fell 5% after fourth-quarter earnings failed to meet Wall Street estimates. Competitor Sirius Satellite Radio (SIRI ), which reports Friday, declined 3%.

Heading into a long President's Day weekend, earnings are also due Friday from Campbell Soup (CPB ), PG&E (PCG ) and RadioShack (RSH ).

On the M&A front, General Motors (GM ) rose 1% after a report that a group led by Cerberus Capital Management is the head bidder for majority stake in the automaker's GMAC finance unit. Another Big Three member, DaimlerChrysler (DCX ), posted an 84% increase in fourth-quarter profit, on a 9.8% revenue rise.

Among other companies in the news, Dow component Honeywell (HON ) got a boost as CIBC World Markets upgraded the company from sector performer to sector outperformer. Cardiac device-maker Medtronic (MDT ) was 1% lower amid a California lawsuit alleging the company sold flawed cardiac defibrillators for two years after learning of a potential defect.

Economic action continued Thursday, a day after Bernanke's well-received initial testimony before Congress. In addition to housing starts, import prices jumped 1.3% in January, as export prices rose 0.7%, providing stronger data than markets had anticipated.

Initial jobless claims rose 19,000 to 297,000 for the week ended Feb. 11, a bigger increase than forecast. The Philadelphia Fed index also surged higher than expected, to 15.4 in February after slowing to 3.3 in January.

Also, the new Fed chief spoke again, this time before the Senate Banking Committee. He refused to limit his options regarding data-dependent rate hikes.

On the economic front Friday, the release of the January overall producer price index is expected to drop 0.1%, while the core index increases 0.3, says Action Economics. The University of Michigan's preliminary February reading for consumer sentiment is seen rising to 93.0 from 91.2 in January.

In the energy markets Thursday, March West Texas Intermediate crude oil futures settled higher $1.05 at $58.70.

European markets finished higher. In London, the Financial Times-Stock Exchange 100 index rose 37.4 points, or 0.65%, to 5,803.1. Germany's DAX index gained 24.88 points, or 0.43%, to 5,789.25. In Paris, the CAC 40 index added 39 points, or 0.79%, to 4,973.09.

Asian markets ended higher. Japan's Nikkei 225 index rose 110.84 points, or 0.7%, to 16,043.67. In Hong Kong, the Hang Seng index edged higher 27.62 points, or 0.18%, to 15,450.88. Korea's Kospi index climbed 27.62 points, or 0.8%, to 1,314.32.

Treasury Market

Prices for 10-year Treasury notes edged higher to 99-10/32 with a yield of 4.59%, while 30-year bonds were also barely higher at 98-28/32 for a yield of 4.57%. Bernanke told Congress he was not "overly" worried by the inverted yield curve. Steady bond yields helped stocks avert inflation fears, says S&P MarketScope.

News Analysis
BusinessWeek.com
February 16, 2006
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Life Without a 401(k)

No retirement benefits at work? No problem. Here are some fairly painless ways young workers can build a nest egg

It's hard to turn on the TV these days without seeing a commercial about world-changing baby boomers and their upcoming retirement bliss. But guess who's inheriting a future with diminished job stability, disappearing pensions and increasingly imperiled safety nets? Their children (see BW Online, 1/13/06, "Slow-Mo in D.C. on Retirement Issues"). Today's young professionals should start saving fast, because there's a good chance no one else will be watching over their investments during their golden years.

That's easier said than done. As companies cut costs, many twentysomethings now hold freelance, temporary, or contract positions that don't come with a 401(k) or another retirement plan (see BW Online, 12/23/05, "Temporary Jobs: Bah, Humbug?"). According to the Employee Benefit Research Institute, less than two-thirds of employees between 21 and 30 have access to an employer-sponsored retirement plan in 2003, vs. roughly three-quarters of workers their parents' age.

Most young people also have other financial concerns. The typical college graduate in 2004 had a debt of $15,162, nearly a two-thirds jump from 1993 (see BW, 11/14/05, "Thirsty & Broke"). Throw in housing and health care, and the costs really add up (see BW Online, 2/02/06, "How to Get Your Health-Care Coverage").

But enough with the excuses. Thanks to the power of compounding, a little scrimping now can grow into a hefty sum down the road. So how much should cash-strapped Generation Debt workers save, and where should the savings go? This Five for the Money finds ways that young workers without company retirement plans can squirrel away money for the future.

1. Open an Individual Retirement Account (IRA).
A 401(k) isn't the only way to get tax-preferred savings. IRAs provide tax benefits of their own, and come in two distinct flavors, traditional and Roth. Both are available from most mutual fund companies.

Many financial advisors recommend Roth IRAs, especially for young people. Investors can't put pretax funds into a Roth IRA, but qualified withdrawals are tax-free. The after-tax nature of the accounts makes them ideal for anyone who is presumably in a lower income-tax bracket now than they will be at retirement. However, if you currently earn $110,000 or more per year, you can't use a Roth IRA.

Some young workers may prefer a traditional IRA, which defers taxes until withdrawal. In other words, money goes into these IRAs on a before-tax basis, as with a 401(k). Depending on annual income, assets going into a traditional IRA may be tax-deductible, too. Contribute by Apr. 15 to take deductions for the 2005 tax year.

For savers below age 50, the annual contribution limit for either type of IRA is $4,000, enough for most young professionals. In 2008, the limit rises to $5,000.

Most experts recommend leaving contributions in an IRA until retirement. Early withdrawals typically carry a tax penalty, but there are exceptions for medical expenses, higher education costs, or a down payment on a first home.

2. Explore other savings options.
Plenty of young people worry about locking up their money in the long run. After all, they might need to crack their nest egg for weddings, children, or rainy days. So contributions to an IRA can be supplemented with savings outside a tax-favored retirement plan.

Meanwhile, self-employed individuals have access to a wider array of retirement-plan options (see BW 12/05/05, "A Perfect Match"). A Simple IRA allows contributions of up to $10,000 a year and can be established anytime between Jan. 1 and Oct. 1 by visiting a financial institution. "They're very easy to use, and you can put a ton of money away," says Terry Balding, a certified financial planner at Terry Balding & Associates.

The self-employed have access to the same types of plans used by big corporations. A one-person 401(k) or pension plan could make sense for those with high income. But the cost and hassle of maintaining these complex programs will be too much for most young professionals.

3. Make savings and investments automatic.
Once workers start saving, the best way to keep up the momentum is to ensure that it happens by default. "The biggest piece of advice, beyond 'start now,' is to use a 'set it and forget it' approach," says John Curry, managing director of retirement management with FundQuest.

Most mutual fund companies allow deposits into IRAs or taxable accounts to be made directly from another account via bank draft. Like contributing to a 401(k), setting up a systematic bank draft allows savings to pile up in the background, without requiring any further effort.

These days the details of investing can be automatic, too. Mutual funds called lifecycle funds aim to take out the legwork, and they're growing in popularity (see BW 07/26/04, "Funds That Adjust As The Years Go By"). These funds shift their asset allocation from stocks to bonds as they approach a certain retirement date. Assets in the funds have more than doubled since 2003, according to Financial Research. Products like the T. Rowe Price Retirement 2040 Fund (TRRDX ) and Vanguard Target Retirement 2045 Fund (VTIVX ) have earned praise for low fees and ease of use.

4. Investigate indexes.
Then again, fees are usually even lower for an index fund. Young investors are widely encouraged to invest primarily in equities, because of their longer time horizon. An index fund lets them reduce management costs while they do it.

A fund tracking an index like the big-cap Standard & Poor's 500 gives exposure to a broad array of U.S. companies. Fidelity Spartan 500 Fund (FSMKX ) has a low expense ratio of 0.1%, while the Vanguard 500 Index Fund (VFINX ) costs only 0.18% (see BW Online 2/8/06, "How to Kick a Fund's Tires"). S&P 500 funds are also tax-efficient, so they can be relatively painless even outside a tax-favored account like an IRA.

"The last thing you have to worry about at this point in your life is asset allocation, because you don't have a lot of money," says Patrick Doland, a financial adviser in Northbrook, Ill. "So let's get you in an investment vehicle to start out, and let's not overcomplicate it."

Index funds make sense for young people who are confident they'll remember to give their portfolio a tune-up once it reaches $10,000. Indexes can be volatile, so the risk-averse should either be prepared or consider other options.

5. Follow the 10% rule.
Financial advisers suggest workers save 10% of what they earn. That may sound steep, especially since the national savings rate sank into negative territory last year for the first time since the Great Depression. But it is possible.

On after-tax earnings of $30,000 a year, saving 10% would mean setting aside less than $60 a week. So give up a night on the town, or start packing your lunches and skipping Starbucks in favor of the office coffeepot.

The trick is to get your house in order first. Keep paying off those student loans, but don't necessarily pay them ahead of schedule. In many cases, if a student secures a low, fixed interest rate, it may be better to invest that money.

On the other hand, it's almost always smart to pay off credit card debt first. Only extremely risky investments would have a chance of overcoming the high interest rates credit card companies typically charge. Better yet, avoid racking up debt in the first place.

THE TIME IS NOW. Saving doesn't have to mean all work and no play. Young professionals might also want to set aside an extra 10% for future indulgences, if they can swing it financially. "This is a generation that likes to have toys, too," says Jim Ludwick, founder of MainStreet Financial Planning.

Most importantly, start saving. Not having a 401(k) shouldn't be an obstacle to a young person getting a head start on retirement.

News Article
BusinessWeek.com
February 15, 2006
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Stocks Rise After Positive Bernanke Remarks

The new Fed chairman sounded an upbeat note before Congress amid mixed economic reports. Crude futures fell below $58

Stocks finished higher Wednesday, bolstered by a lack of surprises in Fed Chairman Ben Bernanke's first testimony to Congress. A mixed bag of economic reports was also in the picture, while crude oil futures continued their descent. Select tech, retail and health care stocks led gains, accompanied by slightly lower volume, says Standard & Poor's MarketScope.

The Dow Jones industrial average rose 13.37 points, or 0.12%, to 11,041.76. The broader Standard & Poor's 500 index edged higher 1.8 points, or 0.14%, to 1,277.33. The tech-heavy Nasdaq composite index added 10.2 points, or 0.45%, to 2,272.37.

The new Fed chief told the House Financial Services Committee the economic expansion remains on track but cautioned about the risk of overheating, according to prepared remarks. He reiterated the Jan. 31 FOMC statement leaving the door open to "some" further rate increases. He also said the Fed's decisions will be flexible but "increasingly dependent" on data. These comments were in line with expectations, says Action Economics.

Bernanke's testimony likely sets the stage for additional rate hikes. "Given our economic outlook, we see the funds rate rising to 5% by the May 10 FOMC meeting and we see an increasing risk of a 5.25% fed fund rate by the middle of the year," says John Ryding, chief U.S. economist for Bear Stearns.

The comments were notably even-handed, some analysts say. "We have a hard time trying to put a hawkish or dovish spin on Chairman Bernanke's prepared remarks," says Joseph LaVorgna, chief U.S. fixed income economist at Deutsche Bank.

In economic data Wednesday, industrial production fell 0.2% in January. But December and November data were also revised higher, so the decline doesn't suggest weakness, says Action Economics. Earlier, the U.S. Empire State manufacturing index edged higher to a better-than-expected 20.3 in February. The National Association of Home Builders remained at 57 in February for the third straight month, ahead of Thursday's housing starts report.

Earnings news came after the close. Computer maker Hewlett-Packard (HPQ) reported first-quarter non-GAAP diluted EPS of $0.48, up from $0.37 a year earlier, and raised second-quarter guidance. Chip-equipment manufacturer Applied Materials (AMAT ) posted fist-quarter EPS of 9 cents, down from 17 cents. Companies reporting Thursday include Dell (DELL ), JC Penney (JCP ) and Target (TGT ).

M&A activity continued Wednesday, as brokerage giant Merrill Lynch (MER ) and money manager BlackRock (BLK ) reached a deal to merge Merrill's investment management business and BlackRock. Merrill will have a 49.8% stake and 45% voting interest in the newly created entity. As a result of the merger, PNC Financial (PNC ), which owns 70% of BlackRock, will hold a 34% share in the combined company.

Separately, Merrill boosted Bank of New York (BK ) and Bear Stearns (BSC ) from neutral to buy. Credit Suisse (CSR ) shares fell more than 8% amid worries about rising costs and investment bank revenue.

Among other companies in the news, Johnson & Johnson (JNJ ) was little changed after a report that the company is slashing its sales operations for anemia drug Procrit. DuPont (DD ) was also little changed after the Senate shelved an asbestos relief bill.

Anheuser-Busch (BUD ) and Wells Fargo (WFC ) were both higher after billionaire investor Warren Buffett's company, Berkshire Hathaway (BRK.A ), revealed large stakes in the companies.

In the energy markets Wednesday, March West Texas Intermediate crude oil futures settled down $1.97 at $57.60 per barrel. A weekly inventory report showed crude supplies jumped 4 million barrels, far more than expected.

European markets finished mixed. In London, the Financial Times-Stock Exchange 100 index slipped 0.8 points, or 0.01%, to 5,791.5. Germany's DAX index edged higher 0.97 points, or 0.02%, to 5,764.37. In Paris, the CAC 40 index fell 27.25 points, or 0.55%, to 4,934.09.

Asian markets ended mostly lower. Japan's Nikkei 225 index fell 252.04 points, or 1.56%, to 15,932.83. In Hong Kong, the Hang Seng index edged higher 2.94 points, or 0.02%, to 15,423.26. Korea's Kospi index declined 24.37 points, or 1.83%, to 1,303.84.

Treasury Market

Prices for 10-year Treasury notes were slightly higher at 99-06/32 with a yield of 4.6%, while 30-year bonds climbed to 98-28/32 for a yield of 4.57%. The yield curve was inverted.

News Analysis
BusinessWeek
February 8, 2006
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How to Kick a Fund's Tires

It's a bit late to learn about hidden fees or untried managers after buying in. Here are some tips to avoid those and other unpleasant surprises

Investors know they should examine a mutual fund's fees and performance record before writing that check. Though many people get help from a financial adviser to find the best funds (see BW Online, 4/8/05, "Finding the Right Money Coach"), knowing where to look under the hood can help avoid getting a lemon.

Low fees are a good thing, but there may be a catch. FundAlarm.com publisher Roy Weitz noticed that E*Trade (ET ) recently promoted its E*TRADE S&P 500 Index Fund (ETSPX ) as one of "the industry's lowest-cost stock index funds." The fund has an expense ratio of 0.09%, well below the 0.39% average for its Lipper category.

The fine print reveals that E*Trade will limit its fees only temporarily. "There is no assurance that [E*Trade] will continue these expense limits beyond April 30, 2006," a footnote reads. Without this fee waiver, E*Trade's index fund would carry a 0.78% expense ratio. By comparison, Fidelity's Spartan 500 Index Fund (FSMKX ) charges 0.1% and the Vanguard 500 Index Fund (VFINX ) shares cost 0.18%. Both funds require shareholder approval to raise fees. E*Trade's fund doesn't, but a company spokeswoman says the brokerage plans to keep its fee caps in place for at least another year.

Weitz fears that investors may get confused when companies trumpet those fees to sell index funds, which compete mostly on price. To check if expense ratios are temporary, read all the footnotes in fund advertisements. NASD rules require companies to disclose the non-waived fee, even if they're touting something lower. Failing that, visit the company's Web site and skip to the section of the prospectus devoted to expenses.

Fee waivers aren't the only way funds can be less attractive than they might appear. This week's Five for the Money looks at how investors can make sure they're getting exactly what they bargained for when they stash their hard-earned cash.

Look at costs beyond just the expense ratio.
"Fees are the most important single factor in evaluating a particular fund," says Mercer Bullard, founder of investor advocate Fund Democracy. So investors should know whether their funds carry hidden costs.

Trading costs can slash investors' returns, but they aren't included in expense ratios. To avoid getting burned, investors should be wary of funds with turnover rates higher than 100%, says Christine Benz, director of fund analysis at Morningstar (MORN ).

So-called opportunity costs are another factor. Some funds may be too large to buy some of the small-cap stocks they might have in the past. Watch out especially for funds that combine high turnover rates with a large asset base or a focus on smaller companies.

Taxes can also hit investors' pocketbooks without showing up in a fund's expense ratio. Funds that frequently distribute dividends or have high turnover rates might give investors an unwelcome surprise on April 15. These funds might be more suitable for tax-deferred account such as a 401(k) or IRA.

Scrutinize performance figures.
Just because a fund has had a couple of good years doesn't mean it's right for everyone. Investors planning to hold a fund for only a few years should read up on the fund's performance volatility, not just its overall performance.

On a number of Web sites, investors can look at the bar chart that shows a fund's returns for each year. "If you have bars that fluctuate up and down dramatically, you know that this is not a short-term investment vehicle," says Bullard.

Don't put money in a volatile fund unless you can afford to leave it there for at least five or 10 years. If investors wind up scrapped for cash when the fund is having an off year, they might end up having to eat substantial losses.

Weigh the risks looking forward, not just backward.
Some investors study measures like standard deviation to learn how risky a fund is. But that only gauges a fund's previous risk levels. Investors should check forward-looking risk measures, too.

Investors should analyze a fund's fundamentals, such as sector weightings and the percentage of the fund's money in its top holdings. Risks can crop up if a fund bets heavily on certain industries or companies. For example, a fund that bets heavily on small stocks may be vulnerable if large ones begin to outperform, as many market watchers have been predicting, says Morningstar's Benz.

Do your homework on a fund's portfolio managers.
A fund is only as good as the people who run it. But sometimes portfolio managers jump ship, particularly during the fund industry's recent consolidation. Investors should make sure a fund with a good record still has the same management team.

Portfolio management information is usually available on a fund's Web site. Also check the prospectus. "A fund could have the greatest track record in the world, but if the portfolio management team that posted that track record is no longer running the fund that history is basically irrelevant," says Brian White, vice president and director of mutual fund marketing with Ryan Beck.

The fund's daunting statement of additional information (SAI) tells how much money, in broad terms, a manager has invested in the fund. In theory, a manager with "skin in the game" has more incentive to rake in high returns.

The SAI also indicates how many other accounts a manager handles. This might include separately managed accounts run for institutional investors or wealthy individuals. If the fund skipper manages a big amount using the same strategy, the fund might bump into problems when trying to unload securities. "They're basically fishing in the same water," Weitz warns.

Watch out for incubated funds.
Sometimes fund companies launch new funds to a select group before making them available to the public. Typically, only employees and their families can invest for the first few years. Industry insiders call these funds "incubated" because they build up a track record under artificial conditions.

Delaware Investments introduced Delaware Small Cap Core (DCCAX) last year. But the press release announcing the launch listed the fund's start date as December, 1998. What's more, the fund previously had a different name and investing style, but it still touted the track record it had piled up while closed to normal investors. A Delaware spokeswoman declined to comment.

Incubated funds aren't necessarily bad investments. Still, investors should be leery of them because a manager running an incubated fund doesn't have to deal with inflows and outflows from regular investors. So when the funds open their doors, investors are looking at performance numbers that occurred under vastly different circumstances.

It can be tricky to spot incubated funds. In most cases, though, the phrase "limited distribution" will appear somewhere in performance footnotes or in the history of the fund. "They never use the word incubated," Weitz says.

It's easy for fund investors to suffer from information overload. But ask the right questions, and you can rest assured your nest egg isn't in a Trojan horse.

News Analysis
BusinessWeek.com
February 6, 2006
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Has Janus Turned the Corner?

The asset manager has turned itself around, thanks in part to CEO Gary Black's efforts, but there are still reasons for investors to be cautious

Named for a two-headed Roman god, Janus Capital Group (JNS ) may have done an about-face. Investors poured $2 billion into the Denver-based asset manager's products in 2005, after $20.6 billion in outflows a year earlier. Fourth-quarter profits rose. And analysts are widely touting the return of growth stocks, the company's bread-and-butter investing style (see BW, 12/29/05, "All Aboard the Growth Train"). On a recent conference call, Janus Chief Executive Gary Black declared: "We've got a lot of momentum as we begin 2006."

Investors have noticed the turnaround. Janus shares hit a 52-week high of $22.43 during trading on Jan. 12, partly on news that Bank of America upgraded the stock to buy from sell (see BW Online, 1/6/06, "B of A Ups Janus Capital, Legg Mason Shares to Buy"). Last year the stock was stuck in a $13 to $16 range until November, when takeover speculation surfaced. Granted, the rising stock market is lifting all asset managers' boats.

Janus recently reported 23.1% higher fourth-quarter profits, as expected, on revenues of $225.2 million. Rivals like Franklin Resources (BEN ) and T. Rowe Price (TROW ) posted similar gains, with substantially higher revenues.

HEFTY SETTLEMENT.  While Janus has taken strides in the right direction (see BW, 9/6/04, "Putting a New Face on Janus"), it may be tough for it to return to its former glory. "It's like turning a battleship," says Morningstar equity analyst Rachel Barnard.

The company still doesn't have many fans on Wall Street. All but one of the analysts have hold or sell recommendations on the stock. Currently trading around $21, the shares are priced well above Barnard's $17 estimate of their fair value. On Jan. 31, UBS analyst Michael Carrier downgraded Janus to reduce from neutral, citing valuation in a note titled "Nice turnaround, but too pricey." The stock price is banking on too many uncertainties working in Janus' favor, Carrier said.

Recent years have been tough for Janus, one of the highest-flying mutual-fund companies of the late-1990s bull market (see BW Online, 5/7/04, "Janus Is Hardly in the Clear"). Fund performance took a nosedive after the bubble burst in 2000, and investors shifted money to value stocks. In 2004, Janus struck a $226 million settlement with state and federal regulators as part of New York Attorney General Eliot Spitzer's probe into improper fund trades.

EXECUTIVE OVERHAUL.  Janus' regulatory troubles, at least, seem like a thing of the past. The company has placed new emphasis on compliance, kick-started by Chairman Steven Scheid, who was CEO from 2004 until Black's recent promotion (see BW Online 9/6/04, "Janus' Scheid On 'Our No. 1 Goal'"). "They can't afford to make any more mistakes," says Jeff Keil, principal at industry consultancy Keil Fiduciary Strategies.

Black has overhauled his investment team to boost performance. Most recently, the company tapped David Corkins to run its struggling flagship Janus Fund (JANSX ). Janus also promoted portfolio managers Jonathan Coleman and David Decker to co-chief investment officers of its domestic equity group. "Black has done a terrific job in his short tenure of making the firm more disciplined and laying out a long-term strategy," Barnard says.

Long-term performance numbers are starting to creep back, as the brutal 2000 and 2001 showings recede in the rearview mirror. As of Jan. 26 well over half of Janus' funds were beating their peers on a five-year basis, up from 26% at the beginning of the year. Sixty-four percent of Janus' funds are ranked four or five stars in Morningstar's three-year ratings, compared to an industry average of roughly 33% with those rankings.

Despite the improved performance for Janus mutual funds, investors haven't been putting new money in them. Although Janus reported it had inflows last year, they came mostly from Intech, its lower-margin quantitative business for institutional clients. Excluding Intech and money-markets, investors yanked a net $14.1 billion from Janus products in 2005, after outflows of $29.2 billion the year before. Company spokesman Blair Johnson finds the progress encouraging. "We always thought that flows would follow strong performance, and it's good to see that happening in a number of products," he says.

GETTING EVEN.  Janus' outflow woes won't necessarily screech to a halt. The reason is what fund-industry consultant Geoff Bobroff calls the "get-even syndrome." Shareholders tend to pull their money out when it grows back to the amount they originally invested. "Good performance only gets investors back to even faster," Bobroff says.

Some investors may want to get even in another sense, too. The bull market's collapse cut many shareholders to the quick. "A lot of investors who have been burned by Janus in the late 1990s feel like it should be drawn and quartered," says Morningstar's Barnard.

Ultimately, any big move in Janus shares will be tied to the overall fortunes of growth stocks. And there are less risky ways to bet on growth than buying into a rebuilding asset manager.