This is the last in a series of stories examining the outlook for international funds. Check out our previous articles on Asia funds, emerging market funds and European funds.
They say that when markets in the U.S. sneeze, foreign markets catch a cold, and that's certainly been the case this year with foreign stock mutual funds.
As in the U.S., what's performing well so far in the foreign stock category, which is defined by
as a fund that invests only in non-U.S. companies, are funds that focus on finding values among the small- and medium-cap sectors of the market. While Morningstar's foreign stock category is down 7.5% on the year as of Friday, funds like the value-oriented
Longleaf Partners International and
Oakmark International Small Cap are leading the category with returns of 9.54% and 8.44%, respectively.
Following the U.S.' Lead
Foreign fund managers say the trend is due to a few factors. Not only have foreign markets been mirroring the U.S. backlash against pricey tech and growth stocks, but fund managers also are finding a lot of high-quality companies that were beaten down when the market was favoring growth.
"From our standpoint, we think the sector's been very cheap for the last few years," says Michael Welsh, co-manager of the
Oakmark International Small Cap
fund and the
Oakmark International fund. "You saw the tide moving out on big-cap value names into the big growth, TMT
technology, media and telecommunications sort of stocks, and what you've been left with is a seashore full of these unloved securities."
Despite the lack of love, the Oakmark fund has managed to turn in some decent performance over the past few years, outperforming its peers in 1999 and 2000 with returns of 53.8% and negative 8.9%, respectively.
Among the Oakmark fund's current top picks are British tableware manufacturer
, the fund's largest holding at the end of last year with a 4.6% stake. The beleaguered chinamaker is about halfway through a four-year recovery program, the fruits of which are just becoming apparent to the market, Welsh says.
The fund also maintains an overweight position in Asia outside of Japan, favoring companies like South Korea's
, in which the fund had a 2.76% stake at the end of last year. Welsh praises the company's profitability and growth prospects, noting that Danish brewer
recently opted to raise its stake in the company to 14.2% from 12.8%.
Jeffrey Everett, chief investment officer of retail mutual funds for
global equity group and manager of the
Templeton World and
Templeton Foreign funds, is also heeding the call of value. He points to two of the larger holdings in the foreign fund, German utility
and Hong Kong property company
Cheung Kong Holdings
, as examples of well-run companies that have yet to be rewarded by the market.
"You have pockets of pessimism where we think it's unwarranted," says Everett, who adds that since the funds he manages aren't limited as to where they can invest, that allows the managers to find attractive opportunities in countries in which meeker funds might fear to tread. Although the Templeton Foreign fund is down 0.77% so far this year, it is still outperforming the negative 7.5% category average.
Anyone for Tech?
Other foreign funds are sticking to their guns even though it may be costing them some performance so far this year. Marcel Houtzager, portfolio manager of the growth-oriented
Liberty Acorn Foreign Forty fund, which is down 10.15% year to date, says he's committed to the fund's tech picks even though the market may not be sharing his view.
Among the Foreign Forty's current top picks are Australian securities registry and financial-services software company
and Israeli tech firm
, which provides customer care and billing systems for communications and IP service providers.
"We are not giving up on companies that have service contracts that provide essential services without whom the clients couldn't turn their lights on in the morning," says Houtzager. "Right now, those companies are available at significantly lower prices."
Choosing a Foreign Fund
Whether value will continue to be on a roll internationally remains to be seen, but investors might want to keep a few factors in mind when looking for a foreign fund.
One is to check a fund's country weighting. Some foreign funds are more willing to invest in emerging markets than others, and that can increase the fund's volatility dramatically. Another important factor is to look at a fund's long-term record and to see if a manager has successfully guided a fund during tough times is still at the helm. For a ranking of funds that have outperformed their peers over time with the same manager, check out this recent
Robert Veasey, a certified financial planner based with the
Sowa Financial Group
in East Providence, R.I., says he tends to favor a team-managed approach to foreign investing rather than one based on what he calls the "star system," in which the fund's performance is attributed to a hot manager. An example Veasey likes is the
MFS Research International A, a team-managed fund that is down 8.67% year to date, but has a three-year annualized return of 8.80%, outperforming the category average of 4.37%. The planner says he's also not afraid to see some volatility, as long as the fund's long-term track record is solid.
"We don't mind that as long as the client is prepped on the concept on volatility and on the downside that helps the upside," Veasey says.