Investing: Should you stay or go when a fund manager splits?
— -- Sometimes it's easy to understand a fund manager's departure: If he's celebrating his 106th birthday, for example, or if he gets his stock picks from the same voices that tell him to burn things.
Even if your manager is departing for more prosaic reasons — lousy performance or a better job elsewhere — it's a significant event. To decide whether a departure is good or bad, you have to figure out why your manager left, and whether their replacement is any good.
Miller's tenure is a lesson in what analysts call "reversion to the mean," which is a fancy way of saying that hot performers tend to become average over time. Miller's performance was superb for a long, long time: He beat the Standard & Poor's 500-stock index for 15 consecutive years — and Legg Mason certainly wasn't shy about telling everyone.
Starting in 2006, however, Value Trust began lagging behind the S&P 500 and its peers, and badly. In 2008, Value Trust lost 55%, vs. a 37% loss for the S&P 500 with dividends reinvested. The fund rallied nicely in 2009, but has lagged since then. The past five years, Value Trust has lost an average 8.9% a year, placing it in the bottom 99% of all large-company blend funds. ("Blend" means a fund that looks for stocks of growing companies that sell at reasonable prices, relative to earnings.)
One can only guess what caused the fund's dramatic slowdown. Reversion to the mean isn't a law of physics; it's just a general tendency. A few possible explanations:
•Size. Investors like to buy funds with hot records, and brokers like to sell funds with hot records. Value Trust's assets swelled from $1.4 billion in 1995 to $20.8 billion in 2006.
Big funds can be slow to react. A more likely problem, however, is overload. Legg Mason's fund business was largely built around Miller, who assumed overall management of the company's stock funds in 1990. He became chief investment officer for the company and chairman as well. That's a lot of work for one person.
•Hubris. When you have a great record, you tend to think more highly of your own opinion. Miller held on to shares of Kodak, which he began buying in 2000. He sold the fund's remaining shares late last year. Kodak's price closed 2010 at $5.36 a share, down from a high of $48.83 in 2001.
•Expenses. Value Trust charges 1.77% a year in expenses, vs. 1.25% for the average large-cap fund. It's hard for a manager to beat the S&P 500 with average expenses; it's extraordinarily difficult with above-average expenses.
The question for investors is what to do with a fund that has changed managers. You should be able to answer these questions:
•Why is the manager leaving? If it's to start a new fund on his own, you may want to follow him, if taxes and fees won't be too steep. Poor performance is another matter.
•Who is the new manager? Has he run a fund before, or is he a rookie? You may not want your manager to learn the job with your money. The replacement for Miller will be Sam Peters, who has been the fund's co-manager for a year.
•How deep is the bench? Large fund companies usually have a pretty deep bench when they yank a manager. Funds that have been built around one manager may not have a great replacement waiting in the wings.
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