Worst 3 International Equity Funds to Avoid

S&P recommends avoiding volatile funds with high expense ratios and sales loads

American investors keep pouring money into the international markets as everyone from portfolio managers to pundits advises them to go global. But in their rush to diversify, investors need to slow down long enough to study the funds that will maximize portfolio returns while reducing risk.

In that spirit, Standard & Poor’s Equity Analyst Michael Souers recently set off to identify the international equity funds with some of the most unfavorable characteristics for investors. Narrowing his search on S&P’s MarketScope Advisor, Souers pinpointed three funds that are “major offenders” in terms of carrying high expense ratios while delivering disappointing performance.

“Factors that we think investors need to be mindful of include investing in funds that carry sales loads, those with poor historical relative performance record, and funds with comparably low Sharpe ratios and/or high standard deviations,” Souers wrote in a Jan. 30 “Trends & Ideas” report.

The Sharpe ratio is used to quantify how well an asset compensates the investor for any level of risk taken. The higher the Sharpe ratio, the better. Meanwhile, the standard deviation measures historical volatility. The lower the standard deviation, the better.

To narrow his search, Souers looked specifically for S&P one- and two-star ranked international equity funds with net assets of $20 million or more. In addition, he screened for funds that ranked in the bottom half of international equity funds for both one year and three years. Finally, he identified funds with a net expense ratio above 1.5%, a Sharpe ratio below 0.25 and a standard deviation above 23.0–all metrics that are much worse than peers.

The three funds listed here have the unfortunate distinction of meeting all of S&P’s screening criteria.

Read about the Top 5 International Bond Funds at AdvisorOne.

AllianceBernstein CEO Peter Kraus1) AllianceBernstein International Value Fund, Class C Shares (ABICX)

This S&P two-star-rated equity fund has underperformed its large-cap value peer group over the past one-, three-, five- and 10-year periods ended Jan. 27, with a greater than 500 basis point underperformance over the five-year period (-10.4% versus -5.3%).

S&P negatively assesses the fund's net expense ratio of 2.1%, well above peers at 1.3%. Moreover, ABICX's Sharpe ratio of 0.23 versus 0.34 for peers reflects a lower risk-adjusted return in the fund's portfolio, and the fund's higher standard deviation of 26.74 versus 24.24 suggests greater volatility.

Companies within the portfolio that have relatively weak earnings and dividend growth include E.On and Vodafone. “ABICX's dividend yield of 4.0% also falls well shy of peers (5.2%), and we view yield as a key component to investment returns during periods of uncertainty,” writes S&P Equity Analyst Souers.

Read about Zacks’ Top 5 International Bond Funds at AdvisorOne.com

Eaton Vance CEO James Hawkes (center) rings NYSE opening bell Nov. 28, 2006, to mark IPO of Eaton Vance Tax-Managed Diversified Equity Income Fund (Photo: AP)2) Eaton Vance Tax-Managed International Equity Fund, Class A Shares (ETIGX)

While single-S&P-star-rated ETIGX's net expense ratio of 1.7% is lower than the other funds that met S&P Equity Analyst Souers’ screening criteria, it is more costly than large-cap core peers’ 1.3% ratio.

Through Nov. 30, 2011, the fund had the fewest holdings of any of the funds screened, with 67, which might be a factor in ETIGX's relatively low turnover ratio (41% versus 53.4%), a metric that S&P views favorably. However, even with an approximate 8% of assets in cash equivalents, the fund's standard deviation is high, at 23.90 versus 22.82 for peers.

“Moreover, ETIGX lags in terms of performance, underperforming peers over the past one-year, three-year, five-year and 10-year periods, with a greater than 500 basis point underperformance over the three-year period (7.7% versus 12.9%),” writes Souers. “The fund's Sharpe ratio (0.20 versus 0.40) also lags peers, which is not surprising given past performance. ETIGX shares carry a maximum front-end sales load of 5.75%, which we view as another negative factor for investors to consider.”

Read about Zacks’ Top 5 International Bond Funds at AdvisorOne.com

Eagle International Equity Fund3) Eagle International Equity Fund, Class C Shares (HEICX)

This one-S&P-star-rated fund underperformed its large-cap growth peer group in the past one-, three-, five- and 10-year periods, including a nearly 900 basis point underperformance over the three-year period, at 6.1% versus 14.8%, hurt particularly by a 22% loss in 2011.

“HEICX has the highest turnover of the funds that met our screening process, with a whopping turnover rate of 133.0% (versus 64.0% for peers),” writes S&P’s Souers. “This excess turnover tends to lead to higher trading costs, and this, combined with HEICX's net expense ratio of 2.5% (versus 1.5%)–the highest of the funds that met all of our screening criteria–causes the fund to have negative cost factors.”

Other unfavorable characteristics of the HEICX international equity fund include a low Sharpe ratio (0.10 versus 0.49 for peers) and high standard deviation (23.73 versus 22.43 for peers. Like ABICX, HEICX charges a 1% redemption fee if shares are redeemed within one year of purchase.

Read about Zacks’ Top 5 International Bond Funds at AdvisorOne.com

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