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Fund Spy
3 promising foreign smaller-cap funds
Investors should approach these funds with reasonable expectations.
By Russel Kinnel
Foreign funds that focus on smaller caps have attracted considerable inflows this year. This comes as no surprise. Sluggish trends here in the United States and positive developments overseas have induced many investors to look abroad for opportunities.
Meanwhile, international offerings that concentrate on smaller caps have really distinguished themselves in recent years. After incurring relatively moderate losses in the early-2000s sell-off, foreign small/mid-value funds surged 50% in last year's global rally and are up 5% in this year's choppy conditions. Foreign small/mid-growth funds didn't perform so well early in the decade, but they held up rather well in a rough 2002, zoomed 54% in 2003, and have managed to eke out a gain this year.
Realistic expectations
Along with their potential for impressive returns, foreign smaller-cap funds can make excellent supplemental international offerings, due to their diversification benefits and long-term potential, but prospective investors must be sure they have realistic short- to mid-term expectations.
The fact that foreign small/mid-value funds and, to a lesser extent, foreign small/mid-growth funds are enjoying an extended hot streak means that they're likely to cool off before too long. And their cold spells can be severe.
For example, foreign small/mid-value funds lost 7% in 1997, while foreign large-cap offerings gained close to 10% and domestic large-cap funds advanced close to 30%. Thus, it's essential that prospective investors be prepared for periods of significant underperformance, that they employ dollar-cost averaging if they're buying into these funds now, and that they adopt a long-term perspective.
Playing a small field
Note, too, that there are only a limited number of proven -- and accessible -- winners in the foreign small/mid-value and foreign small/mid-growth categories. Both categories are fairly small to start, and several of the most-attractive established funds are off-limits to retail investors, either because they're closed to new investors or because they come only in institutional shares. Meanwhile, many of the retail funds that are open and have been around for a while have undistinguished records or are too big (or on the verge of becoming so) to ply their small-cap disciplines deftly.
Meanwhile, Tweedy, Browne Global Value (TBGVX) and Vanguard International Explorer (VINEX) remain excellent choices for many foreign smaller-cap fans -- and they follow strategies that are well suited to their sizable asset bases -- but they're certainly not for everyone. The former's all-cap approach, commitment to staying fully hedged at all times, and overall conservatism are likely to deter those seeking lots of small-value pop, for example, while the latter's attention to valuations and relatively light emerging-markets stake is likely to put off some aggressive small-growth investors.
3 good up-and-comers
Given the limited number of established, accessible, and attractive funds in the foreign small/mid-value and foreign small/mid-growth categories, we think interested investors would be remiss if they didn't at least consider three up-and-coming members of the groups. Although these funds are each less than 3 years old -- and thus won't show up on many performance screens -- they all have real promise. Here are the details:
Artisan International Value (ARTKX), which opened in late 2002, soared 56% in 2003's worldwide rally and has gained an impressive 10% so far in 2004. But the huge absolute gains of 2003 -- which are unlikely to be repeated anytime soon -- and the excellent overall start aren't the only reasons we're optimistic. Manager David Samra developed his miserly instincts and skills at noted value shop Harris Associates, and he follows a strict discipline that avoids financially distressed and highly leveraged firms and thus moderates certain risks. The fund's asset base is still quite manageable at roughly $175 million, and Artisan has a history of closing funds before they get too big.
Third Avenue International Value (TAVIX), which opened at the end of 2001 and still has a very manageable $270 million in assets, has also been great out of the gate. After posting mild losses in 2002, it produced superior gains in 2003's favorable conditions and has done the same in this year's tougher climate. And its charms don't end there. Manager Amit Wadhwaney is a Third Avenue veteran who relies on the same strict deep-value strategy as the other managers at the firm. That discipline has produced distinctive portfolios and distinguished long-term results at all the family's other offerings.
Wasatch International Growth's (WAIGX) start hasn't been quite so impressive. The fund, which opened in mid-2002, did manage to limit its losses quite impressively during its first six months, when the market was falling sharply, but it earned subpar gains in 2003 and has posted rather average results this year. Nonetheless, we're bullish about this offering. Manager Mike Gerding has significant and heartening experience as a foreign smaller-cap-growth manager, and he's supported by three savvy analysts. Most importantly, Wasatch is one of the best smaller-cap-growth shops around and has an admirable record of closing funds before they get too big.
Copyright 2004. Morningstar, Inc. All rights reserved.
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