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Small- and Mid-Cap Value Funds: Portfolio Recommendations From Sam Stovall: Mutual Fund Focus, November 2009

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News and analysis from Standard & Poor’s MarketScope Advisor

The last weeks of the year offer an excellent time to review investment holdings, helping to get a head start on managing tax season and next year’s expenses as well as to position portfolios for the market and economic conditions to come. A thorough evaluation of each investment thesis seems all the more imperative in the wake of the powerful rally in U.S. and international stock markets since the market hit a 12-year low in March.

Standard & Poor’s Chief Investment Strategist Sam Stovall notes that both small- and mid-cap stocks rose more quickly than large caps since the market low in March, as is usually the case at the start of a bull market. [To hear more on the mutual fund outlook for 2010 from Mr. Stovall and other S&P analysts, see the invitation at the end of this story.]

S&P’s Investment Policy Committee recommends keeping 6% of portfolio holdings in mid-cap stocks, and 4% in small-cap stocks. The committee recommends a blended position, but for those hoping to pick up some additional yield, there are some signs that point to better performance from the value side of the small- and mid-cap universe compared with the growth side. S&P Equity Research estimates that earnings per share for S&P/Citigroup Mid-Cap Total Return Value index members will rise by 20% in 2009 compared with a 27% decline for its sister Growth index. Earnings for S&P/CitiGroup Small-Cap Total Return Value index members are seen rising 13%, compared with a 21% decline for the Small-Cap Growth index.

In 2010, small and mid-cap growth companies should return to profit growth, but their value counterparts should post as strong or stronger gains, with mid-cap growth companies estimated to report 53% earnings per share growth in 2010, compared with 51% for mid-cap value companies. Small-cap value stocks should see earnings per share gains of 192%, compared with 54% for the growth side in 2010, according to S&P estimates. Small- and mid-cap value stocks “are showing EPS growth over growth,” for 2010, Stovall says, while profit gains for growth stocks will have to play catch up.

For those interested in the mid-cap and small-cap space, four value-oriented funds stand out from the group of about 15 small- and mid-cap value funds that have a 5-star rank from S&P Mutual Fund reports.

Janus Perkins Mid-Cap Value (JMCVX) is far and away the largest mid-cap value fund, with $10.3 billion in assets at the end of October 2009. Since it opened for business in August 1998, it has delivered an impressive 12.4% average annual return, almost twice the 6.83% return from its benchmark–the Russell Mid-Cap Value index–over the same period. Its 0.84% expense ratio is lower than the 1.42% industry average, and the fund is one of the top five performers over both the past three- and five-year periods. The fund’s assets are spread fairly equally over 151 holdings, with top holding Allstate accounting for just 1.4% of the fund.

Another fund that has been a consistent performance leader over the past five years is Tocqueville Delafield (DEFIX). With about $700 million in assets as of the end of September, the fund is one of the larger mid-cap value funds, and it has ranked near the top of its peers in performance over the past one-, three-, and five-year periods. Its portfolio is more concentrated, with top holding Flextronics accounting for 4.7% of the fund’s assets. Whereas the Janus Perkins fund is more weighted to energy stocks (9% of the fund), the Tocqueville Delafield fund has almost half its assets in industrial and technology stocks.

FMI Common Stock (FMIMX), which includes both small- and mid-cap value stocks, is worth a look, though be warned that it closes to new investors on December 31. The fund stands out for being one of the largest small-cap value funds, with $871 million in assets. Like the Janus Perkins fund, the FMI fund has returned about 12.1% since it started operating, but it has been in business far longer–since December 1981. The fund currently holds 47 stocks and tries to keep its holdings at between 40 and 50 names. The largest holding at the end of September was Arrow Electronics, at 3.8% of the fund.

Among small-cap value funds, Intrepid Small Cap (ICMAX) earns a mention for its 12.4% return over the past three years, more than triple the return of any other small cap value fund over that period. The fund has about $242 million in assets spread across 63 stocks, and it had a relatively large portion of its assets–18.1% as of September 30–in cash. Its holdings are fairly concentrated, with its top two , Pan American Silver and Tidewater, accounting for about 10% of the fund’s assets.

S&P Senior Financial Writer Vaughan Scully can be reached at [email protected]. Send him your ideas for mutual fund story topics.

A special invitation: Looking Ahead – Mutual Funds for 2010 Are your clients’ portfolios well-positioned for next year?

Tuesday, December 1, 2009

3:00 p.m. – 4:00 p.m. Eastern Standard Time

Register Now

Join us at this free event at which you will hear S&P senior strategists and analysts Sam Stovall, Todd Rosenbluth, and Scott Kessler discuss sectors positioned for growth in the beginning of 2010, how to select mutual funds for client portfolios, and diversified and sector-specific mutual funds that are ranked favorably by S&P using its new holdings-based methodology.