Mutual Fund Site

Five days ago, Morningstar published its October monthly fund flows report. Those five days have allowed us to sit back and pat ourselves on the back while we mull over our shortlist of domestic equity funds that are competing for the most-coveted title of “Mutual Fund Site Top Mutual Fund Pick of 2011.” And then we jolt out of our dreams. Not because a domestic equity fund cannot be our Top Mutual Fund Pick for next year, but because let’s face it, nobody knows about that “most-coveted title” part. Still, the Mutual Fund Site continues to make inroads among the mainstream and with a host of great features in development for 2011, that Top Fund will find a lot of free publicity. Not solely because we will pick it, but because it really is a kick-a$$ equity fund.

So what makes us so darn confident that our top fund pick for 2011 is going to be, hands down, the truly best out there? For starters, it will be a domestic equity fund. Another thing is it will be one of the 32 domestic equity funds we have reviewed this year (2010). In other words, it will be one of the equity mutual funds that we know quite well. There will be no question in our mind that our Top Pick will be among the best performing funds next year.

What adds to confidence is the October fund flows that our friends at Morningstar published those five short days ago. Would you believe that US stock funds have continued to see net outflows? Although the “flow” has slowed some (it would be too much to call it a trickle or even a heavy leak), this is the only the fund category that saw net redemptions. And this in the face of total net inflows for long-term funds!

What this tells is that investors are more and more interested in investing in mutual funds, they just do not like the idea of investing in US stock funds. This brings us to our bias toward our Contrarian investment strategy which suggests you need to buy when others are fearful. Indeed, investors are clearly fearful of domestic equity funds as they have stripped a total of more than $64 Billion of assets out of this category so far this year, compared to taking just $25,748,000,000 off the table in 2009.

In speaking of 2009, consider as well that Balanced portfolios also saw net redemptions in 2009 (this year, only the domestic equity funds category has seen net outflows). So far this year, Balanced funds have seen inflows of $7.4 Billion with a staggering $2.3 Billion coming in during the month of October. This is a great sign for us: people are indeed moving toward more equity based investments, although they are still not convinced that investing at home is where they want to be.

Something that the report pointed out is that passively managed equity funds are more popular than actively managed funds. At the Mutual Fund Site, we like actively managed funds because this is where investors can really gain from the expertise and brilliance of many of these top performing fund managers. But investor preference for passive funds tell us that investor expectations are somewhat geared toward the domestic Index outperforming other Indexes in the coming year. We, on the other hand, are a little more skeptical, which reinforces the important role that fund managers will play in helping us prove our point about domestic equity funds.

We can see signs of strong performance in some sector specific equity funds. Funds that invest heavily in automakers, for example, have seen some strong triple-digit returns on a YTD basis. Yet this type of information rarely sees the press. Instead, we hear about China’s strength, we hear about bond yields in Latin America, we hear about oil and gold and silver and other commodities that happen to fuel the rage for non-domestic equity funds. And that has been all fine in 2010. But for 2011, we are very clearly and passionately looking to domestic equities. Our ideal fund will very likely be a large cap fund with some mid-cap exposure. We believe the equities that these funds purchase are undervalued, suggesting a value bias although we cannot confirm this right now because it remain unclear with over a month left until we make our final choice.

Ultimately, we interpret the October flows as confirmation of whatever our large cap, domestic equity focused mutual fund choice will be. But we also see a lot of other positive signs which are fund specific. As we get closer to 2011, we will drop more hints but with each day that we stroke a name off that shortlist (it is more like every week as our decision becomes increasingly difficult), we get more excited. Hence posts like this.