Balanced Mutual Funds Offer Stability

NEW YORK (TheStreet) -- At a time when markets are swinging wildly, balanced funds have proven to be lifesavers.

These funds hold mixes of stocks and bonds. While the bond holdings cushion the funds during downturns, the stocks enable them to deliver competitive results during rallies. So far this year, Morningstar's conservative allocation category -- including the most cautious balanced funds -- has returned 1.0%, while most all-stock funds have sunk into the red.

Typical balanced funds hold about 60% of assets in familiar blue-chip stocks and 40% in high-quality bonds. But some winning funds have shown they can produce compelling results by departing from the usual script.

The winners put varying allocations in small stocks, foreign securities or lower-quality bonds. The top performers include Villere Balanced ( VILLX), WHG Income Opportunity ( WHGIX) and Thornburg Investment Income Builder ( TIBAX).

Villere Balanced boasts one of the strongest records, returning 4.8% annually during the past five years, outdoing 99% of its peers in the moderate allocation category. The fund buys stocks of all sizes and is willing to hold some bonds that are rated below-investment grade.

The fund focuses on unloved stocks that have the potential to grow 18% annually for sustained periods in the future. To avoid trouble, the managers stick with companies that have secure market positions and solid balance sheets.

While they own some large-cap stocks, the portfolio managers tend to favor small and mid-cap shares. "The big blue-chips may be dependable, but they can't necessarily deliver the kind of sustained growth that we prefer," says portfolio manager George Young.

A favorite holding is Euronet Worldwide ( EEFT), which operates ATMs in Europe. Revenues have grown smartly lately, but the shares have stagnated as investors worry about European debt problems, says Young.

He also likes Jos. A. Bank Clothiers ( JOSB), which operates 515 men's clothing stories. Running frequent sales, the chain has been growing smartly. The balance sheet is rock-solid, including more than $9.00 per share in cash.

Another top-performing fund is WHG Income Opportunity, which returned 5.3% annually during the past five years, outdoing 98% of competitors in Morningstar's conservative allocation category. Portfolio manager Mark Freeman aims to deliver solid total returns while limiting volatility. To accomplish this goal, he holds income-producing assets, including dividend-paying equities, bonds, convertibles, master limited partnerships and cash.

Freeman varies the mix, emphasizing cheap holdings and steering away from investments that seem rich. He had 41% of assets in bonds in 2006. At the time, the federal funds rate was at 5.25%, and fixed-income yields seemed compelling. Now that the fed funds rate is close to zero, yields look puny, and Freeman has only 20% in bonds. As markets rallied in 2007, he had 14% in stocks. Now the stock allocation stands at 38% because price-to-earnings ratios seem modest.

Freeman looks for out-of-favor stocks with improving earnings and balance sheets. "We like stocks that face skepticism from investors," he says.

One holding is Microsoft ( MSFT). In the past, the stock was too expensive for Freeman's taste.

But these days the P/E is at 9 because investors figure that the software giant is stuck in slow-growth markets. But Freeman says that the company can grow 10% annually, a solid rate. Another technology giant he likes is Dell ( DELL), which sells for a P/E of 8. The shares trade for around $15, even though the company has more than $7 a share in cash. Investors fear that Dell's consumer business is slipping, but Freeman says that Dell's corporate sales remain solid. "Their profits don't depend heavily on consumers," he says.

Yield-oriented investors should take note of Thornburg Investment Income Builder. The fund aims to pay a substantial yield that will grow consistently. To accomplish the goal, portfolio manager Brian McMahon buys bonds and dividend-paying stocks from around the world. McMahon has a big stake in Europe because companies there tend to pay richer dividends. The recipe has generally succeeded. The fund currently yields 6.4%. During the past five years Thornburg has returned 4.3% annually, outdoing 78% of competitors in the world allocation category.

McMahon varies his allocations as market conditions change. He has raised equity holdings from 58% of assets in 2009 to 75% now. Based on yields, stocks appear unusually cheap compared to bonds, he says. For most of the last 50 years, stock yields were higher than bond yields. But in recent years, bond prices climbed, and the yields fell. Now there are instances where a company's bond yield is the same or lower than the stock yield.

McMahon likes the stock of AT&T ( T). "The dividend yield on AT&T is around 6%, and it is hard to find a 6% yield on one of the company's bonds," he says.

Stan Luxenberg is a freelance writer specializing in mutual funds and investing. He was executive editor of Individual Investor magazine.

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