Low-Risk Funds: The Short List

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Includes: ACWV, FAOFX, FBLAX, FCBFX, FDGFX, FEQIX, FFNOX, FGBFX, FGILX, FHIFX, FIKFX, FIOOX, FIREX, FIUIX, FLTMX, FLXCX, FMIJX, FMSFX, FPCIX, FRIFX, FSCSX, FSKLX, FSVLX, HYMB, LVL, SPIB, SPLV, TSI, VEMBX, VFICX, VMNVX, VSCGX, VWAHX, VWEHX, VWITX, VWNDX, VWOB
by: Charles Bolin
Summary

I rated nearly 2,000 closed end, exchange traded, and mutual funds for Risk, Risk-Adjusted Returns, price trends and yield to select 89 top funds in 35 Lipper Categories.

The Short List is narrowed to 16 funds representing diversified categories with lower risk and high risk-adjusted returns that are trending higher.

The Fund Spotlight is on Vanguard Emerging Markets Bond Funds (VEGBX, VEMBX).

Those managing savings through this cycle must keep their eyes focused on the horizon: protecting capital and preserving liquidity is essential if we are to have valuable buying power in the months ahead... Word to the wise: a new rate cutting cycle is not bullish for equities and corporate bonds, nor for those holding their savings in them.

- New Easing Cycle Not Bullish For Corporate Securities, Danielle Park, CFA

Introduction

Risk is often thought of as drawdowns or loss of capital due to economic cycles, high valuations, fraud, poor management decisions and the unforeseen "Black Swans." Lack of meeting withdrawal and income needs, and the threat of future inflation are important considerations. This article focuses on funds that are more risky than short-term Treasuries and less risky than the S&P 500 as measured by the Ulcer Index and drawdowns. Risk to Reward performance is measured by the Martin and Sortino Ratios.

Each month, I download close to two thousand exchange traded, closed end, and mutual funds from Mutual Fund Observer and rank them based on the Ulcer Index which measures the depth and duration of drawdown, the Martin Ratio which measures the risk-adjusted return, 3 and 10 month trends, and yield, after excluding outliers for metrics such as price to earnings ratio.

Readers only interested in the final list can skip down to "Portfolio Visualizer - The Short List."

The Categories

Table #1 shows the average ratings for the top funds in the top Lipper Categories. For the past 18 months, bonds, income and preferred stock, and multi-cap growth have had the highest risk-adjusted performance. U.S. Mortgage, General Bond, and emerging markets local currency debt have been most consistently trending higher. Lower Risk Rating and Ulcer Index identify funds that have experienced less severe drawdowns over the past 18 months. The higher the Performance Rating and Martin Ratio, the better the fund has performed on a risk-adjusted basis.

Table #1: The Categories

CATEGORY Risk Ulcer Rating Martin Yield 3 MO TREND 10 MO TREND
BOND
1) U.S. Mortgage 1.0 0.7 3.3 2.5 5.0 3.0 1.8
2) General Bond 1.0 1.0 3.0 6.3 1.3 2.4 2.1
3) Global Income 1.5 0.6 4.5 18.4 1.3 2.2 1.6
4) Core Bond 1.3 1.0 4.5 2.2 0.8 2.4 1.7
5) High Yield 2.0 1.2 4.4 3.1 0.7 1.8 1.6
6) EM Mrkts Local Currency Debt 2.0 1.3 5.0 4.8 1.0 5.9 1.8
7) Corporate Debt BBB-Rated 1.5 1.6 3.3 1.5 0.6 2.0 1.9
MUNICIPAL BOND
1) Muni High Yield Debt 1.0 0.5 4.3 9.4 1.7 1.6 1.8
2) Muni Interm Debt 1.0 0.6 3.4 4.1 0.9 2.3 1.5
3) Muni General & Insrd Debt 1.0 0.6 3.7 3.7 0.9 2.0 1.6
MIXED ASSET
1) Inc & Pref Stock 1.0 0.2 5.0 19.4 1.8 2.1 1.5
2) Mxd-Ast Target Consv 2.0 1.4 4.7 1.8 0.5 0.8 1.4
3) Mxd-Ast Target Moderate 2.0 2.2 4.3 1.1 0.4 0.3 1.5
4) Mxd-Ast Target Today 2.0 1.3 5.0 1.8 0.5 0.6 1.4
US EQUITY
1) Multi-Cap Growth 4.0 4.3 5.0 6.5 1.4 3.0 1.6
2) Equity Income 3.3 3.8 3.8 0.8 0.2 (1.1) 1.8
3) Multi-Cap Core 3.5 3.5 4.0 2.4 0.6 0.3 2.3
4) Large-Cap Value 4.0 4.4 4.7 1.0 0.3 (1.1) 1.3
5) Multi-Cap Value 4.0 4.8 3.7 0.8 0.2 (2.4) 1.7
GLOBAL EQUITY
1) Global 3.0 2.8 5.0 1.0 0.3 2.3 0.8
2) Global Multi-Cap Core 3.0 2.8 5.0 2.3 0.6 1.3 1.6
3) Global Equity Income 3.3 5.0 4.0 0.4 0.2 (0.6) 1.7
4) Global Small-/Mid-Cap 3.5 4.6 4.0 1.0 0.2 (2.2) 1.2
INTERNATIONAL EQUITY
1) Intern Multi-Cap Growth 3.0 4.0 4.7 0.1 0.0 (2.1) 1.0
2) Pacific Ex Japan 4.0 7.1 5.0 0.2 0.1 (1.1) 1.8
3) European Region 4.0 6.6 4.5 0.3 0.1 (2.8) 2.9
SECTOR EQUITY
1) Utility 2.7 1.9 2.7 3.4 0.7 3.0 0.6
2) Real Estate 2.3 2.0 4.0 1.6 2.0 1.0 0.6
3) Natural Resources 4.0 5.2 5.0 1.5 0.4 1.0 1.1
4) Financial Services 4.0 4.5 5.0 2.3 0.6 (1.5) 7.6
5) Science & Tech 4.0 5.1 4.0 2.8 0.8 (2.1) 2.4
6) Intern Real Estate 3.0 5.1 3.5 0.4 0.1 0.2 (0.3)
S & P 500 4.0 5.0 4.0 1.3 1.9 (3.1) 2.4

Source: Created by the Author Based on Mutual Fund Observer

The Funds

The Ranking System and 18-month time period are selected to represent a late stage of the business cycle. Table #2 lists Fidelity and Vanguard Mutual Funds, exchange traded, and closed end funds separately and lumps other mutual funds into one group.

Table #2: Funds with Lower Risk and Higher Risk-Adjusted Returns

CATEGORY ETF CEF Vanguard Fidelity Other
BOND
1) U.S. Mortgage CMBS DMO FMSFX SGVAX
2) General Bond IUSB PCM FPCIX
3) Global Income HOLD PKO FGBFX HWDIX
4) Core Bond GVI VFICX FLXCX DODIX
5) High Yield SHYG HYI VWEHX FHIFX DSIAX
6) EM Mrkts Local Currency Debt VEMBX
7) Corporate Debt BBB-Rated SPIB INSI FCBFX MGFIX
MUNICIPAL BOND
1) Muni High Yield Debt HYMB MUA HYMAX
2) Muni Interm Debt MUNI SBI VWITX FLTMX BIAEX
3) Muni General & Insrd Debt FMB VWAHX SNTIX
MIXED ASSET (and Preferred)
1) Inc & Pref Stock TSI
2) Mxd-Ast Target Consv AOK VASIX RBBAX
3) Mxd-Ast Target Moderate AOM VSCGX FBLAX
4) Mxd-Ast Target Today VTINX FIKFX
US EQUITY
1) Equity Income VRP VEIPX FEQIX TWEIX
2) Multi-Cap Core SPLV FFNOX
3) Large-Cap Value MGV FDGFX CFVLX
4) Multi-Cap Value FVD VWNDX FIOOX
GLOBAL EQUITY
1) Global EOD
2) Global Multi-Cap Core ACWV
3) Global Equity Income LVL FGILX
4) Global Small-/Mid-Cap JPGE VMNVX
INTERNATIONAL EQUITY
1) Intern Multi-Cap Growth EFAV FSKLX FMIJX
2) Pacific Ex Japan EPP
3) European Region DBEU PRESX
SECTOR EQUITY
1) Utility FXU ERH FIUIX
2) Real Estate MORT FRIFX
3) Natural Resources PHO FIF
4) Financial Services KBWP FSVLX
5) Science & Tech TDIV FSCSX
6) International Real Estate RWX FIREX

Source: Created by the Author Based on Mutual Fund Observer

The Long List

The Funds in Table #3 have the highest score in the Ranking System for their Lipper Category and are shown with the metrics in the system. As a cautionary note, DMO and PCM are closed end funds that are selling at a premium. In addition, Mutual Fund Observer appears to use the net asset value while Portfolio Visualizer uses price.

Table #3: The Long List of Funds

CATEGORY FUND Risk Ulcer Rating Martin Yield 3 MO TREND 10 MO TREND
BOND
1) U.S. Mortgage DMO 1 0.0 5 - 14.0 4.3 1.6
2) General Bond PCM 1 0.5 5 15.6 9.4 2.4 1.4
3) Global Income HOLD 1 0.0 5 - 2.3 1.1 0.3
4) Core Bond DODIX 1 0.8 5 2.6 3.1 - -
5) High Yield DSIAX 2 0.7 5 5.9 5.0 - -
6) EMrkts Local Currency Debt VEMBX 2 1.3 5 4.8 4.9 5.9 2.5
7) Corporate Debt BBB-Rated SPIB 1 1.1 5 2.2 3.1 2.4 1.4
MUNICIPAL BOND
1) Muni High Yield Debt HYMB 1 0.5 5 10.6 4.0 1.8 1.0
2) Muni Interm Debt BIAEX 1 0.3 5 8.9 3.2 - -
3) Muni General & Insrd Debt VWAHX 1 0.7 4 4.0 3.6 2.3 0.8
MIXED ASSET
1) Inc & Pref Stock TSI 1 0.2 5 19.4 6.3 2.1 1.0
2) Mxd-Ast Target Consv VASIX 2 1.0 5 2.6 2.7 1.3 1.5
3) Mxd-Ast Target Moderate VSCGX 2 1.9 5 1.3 2.6 - 1.7
4) Mxd-Ast Target Today FIKFX 2 1.1 5 2.0 2.1 0.8 1.3
ALTERNATIVE
1) Alter Credit Focus FPNIX 1 0.0 5 - 3.7 - -
US EQUITY
1) Equity Income VRP 2 2.0 3 0.5 5.2 (0.6) 0.8
2) Multi-Cap Core SPLV 3 2.6 5 4.0 2.0 3.6 2.2
3) Large-Cap Value CFVLX 4 3.8 5 1.3 2.4 - -
4) Multi-Cap Value FVD 4 3.1 5 2.1 2.1 1.4 2.2
GLOBAL EQUITY
1) Global EOD 3 2.8 5 1.0 10.3 2.3 2.4
2) Global Multi-Cap Core ACWV 3 2.8 5 2.3 2.2 1.3 2.5
3) Global Equity Income LVL 3 4.7 5 0.9 3.8 1.5 2.8
4) Global Small-/Mid-Cap VMNVX 3 2.7 5 2.4 2.1 (0.8) 2.0
INTERNATIONAL EQUITY
1) Intern Multi-Cap Growth FSKLX 3 3.7 5 0.4 2.1 (0.8) 2.1
SECTOR EQUITY
1) Utility ERH 2 1.6 2 2.9 6.9 3.8 2.5
2) Real Estate FRIFX 2 1.8 5 2.8 4.4 2.0 1.4
3) Natural Resources PHO 4 4.0 5 2.5 0.5 1.7 3.6
4) Financial Services KBWP 4 3.4 5 3.5 2.2 0.2 3.4
5) Science & Tech FSCSX 4 5.1 5 4.1 0.1 (2.1) 1.9
6) Intern Real Estate FIREX 3 4.5 5 0.9 1.5 0.9 2.5
BASELINE FUND
S & P 500 SPY 4 5.0 4 1.3 1.9 (3.1) 2.4

Source: Created by the Author Based on Mutual Fund Observer

Portfolio Visualizer - The Short List

I loaded the funds into Portfolio Visualizer and the link is provided here. The funds selected to be in a portfolio that maximizes return at 6% volatility or one that maximizes the Sharpe Ratio are shown below sorted by highest Sortino Ratio (Risk Measurement) to lowest.

There are 10 mutual funds, 5 exchanged traded funds and one closed end fund (TSI) in the Short List. There are 9 bond funds, 4 equity funds (including real estate), and 2 mixed asset funds. Eight of the funds are classified as Great Owls by Mutual Fund Observer. Eleven of the funds are actively managed and 5 are index funds. The average expense ratio of the funds in the Short List is 0.4%. The age of the funds ranges from 3 to 50 years with the median age being 9 years.

I removed FSCSX (Science and Technology) and KBWP (Financial Services) as being too volatile for a low risk portfolio. PCM (Closed End General Bond) was eliminated because of a premium to net asset value.

Table #4: The Short List

Ticker Name Ann Rtn Stdev Max. Drawdown Sortino Ratio
FPNIX FPA New Income 3.2% 0.7% 0.0% 6.0
HYMB SPDR Nuveen HY Muni 7.4% 2.8% -1.5% 4.5
BIAEX Brown Adv Tax Ex Bd 4.8% 1.9% -0.7% 3.0
DSIAX Diamond Hill Corporate 6.0% 3.7% -2.3% 2.4
VEMBX Vanguard EM Bond Inv 8.1% 6.4% -2.9% 2.1
HOLD AdvisorShares Core Rsvs 2.4% 0.4% 0.0% 2.0
VWAHX Vanguard HY Tax-Ex 5.0% 3.0% -1.6% 1.8
DODIX Dodge&Cox Income 4.1% 2.6% -1.3% 1.7
SPIB SPDR Interm Term Corp 4.4% 3.0% -2.0% 1.7
SPLV Invesco S&P 500 Lo Vol 12.2% 11.5% -6.8% 1.4
FRIFX Fidelity Real Estate Inc 7.1% 6.8% -4.2% 1.3
VASIX Vanguard LifeStrat Inc 4.6% 3.8% -2.2% 1.2
VMNVX Vanguard Global Min Vol 8.4% 10.0% -8.2% 0.9
FVD First Trust Val Line Div 8.5% 12.9% -7.6% 0.8
TSI TCW Strat Inc Fund 5.2% 9.9% -8.0% 0.5
VRP Invesco Var Rt Prfrd ETF 3.0% 6.8% -7.5% 0.3

Source: Created by the Author Using Portfolio Visualizer

Chart #1 shows the risk-adjusted return as measured by the Sortino Ratio compared to the Drawdown for the short list of low risk funds during the past 18 months. It is worth noting that the bond funds including high yield have lower drawdowns and higher risk-adjusted returns than equities.

Chart #1: Risk-Adjusted Returns Vs. Drawdown

Source: Created by the Author Based on Portfolio Visualizer

Gold

I added gold (IAU) to the Portfolio Visualizer link and it selected IAU to be in both portfolios. "IAU: The Latest Fed Minutes Are Supportive For Gold," by Sankalp Soni, explains how gold is inversely related to the dollar and that the likelihood of lower rates may be supportive of gold. In "Portfolios Of Funds That Do Well In A Bear Market" (August 2018), I wrote how gold was a hedge against uncertainty, in addition to inflation.

Table #4: Gold Performance (18 months)

Ticker Name Ann Rtn Stdev Max. Drawdown Sortino Ratio
IAU iShares Gold Trust 5.2% 10.0% 11.5% 0.7

Source: Portfolio Visualizer

Unknown And Unloved: Vanguard Emerging Markets Bond Fund (VEGBX, VEMBX)

BlackRock upgraded emerging market debt but no longer favors emerging market equities, lowering them to neutral from overweight as the outlook for global growth dimmed.

- BlackRock sees economic outlook worsening for the second half, but stocks doing well anyway, CNBC

Morningstar rates VEGBX with 5 Stars. It lists Daniel Shaykevich as the Manager since 2016, and he has managed portfolios since 2004. The fund invests 79% in emerging market government bonds, with 11% in corporate bonds and 10% in cash. About 25% of its assets are invested in Indonesia, Mexico, Argentina, followed by Russia.

With regards to the trade war with China and its potential impact, Dan Wiener, editor of Independent Adviser for Vanguard Investors newsletter says:

Vanguard’s Daniel Shaykevich apparently doesn’t have a very positive view on Chinese debt. He’s invested a mere 1.4 percent of Vanguard Emerging Market Bond’s portfolio in Chinese bonds

Mutual Fund Observer classifies the Vanguard Emerging Markets Bond Fund as a Great Owl. According to Mutual Fund Observer, the Admiral Fund (VEGBX) was 2018 was formed in 2018 and the Investor Fund (VEMBX) was formed in 2016. It is the youngest fund in the Short List. During the past three years VEMBX has returned 29.6% versus its peers returning 12.0%. The Ulcer Index for VEMBX is 1.4 versus 6.2 for its peers. This is why the MFO Risk is only 2 for VEMBX compared to 3 for the peers. Its performance during the past 12 months is 15% with an Ulcer Index of 1.0 compared to 8.0% and 2.9% for the peers. VEMBX has had a three year maximum drawdown of 5% compared to 13.9% for the peers. VEMBX yields 4.9%.

The Vanguard Emerging Markets Bond Funds are actively managed counterparts of the passively managed Vanguard Emerging Markets Government Bond ETF (VWOB). Assets under management are $206M, however Vanguard manages $4.5 billion in emerging market bonds.

In a way, Vanguard is setting up a horse race between active and passive management, a theme repeated throughout its stable of funds, including in the foreign bond arena. Shaykevich also manages the $98 million Emerging Markets Bond fund, still relatively unknown and unloved by Vanguard investors despite having more than doubled the return of the firm’s $1.3 billion Emerging Markets Government Bond Index fund. It has outperformed the index fund in every month but two since its inception in early 2016.

- Bull Markets, Estate Planning and Vanguard Fund Changes

According to Vanguard, the objective of VEMBX is:

This fund seeks to provide total return while generating a moderate level of current income through investing in bonds in emerging economies. Like other bond funds, the fund is subject to interest rate risk; increases in interest rates may cause the price of the bonds in the portfolio to decrease, reducing the fund’s NAV. The fund is also subject to emerging markets risk—bonds in these countries tend to be more volatile and less liquid than those in developed countries—and other international risks, such as country/regional risk. The fund does subject U.S.-based investors to currency risk as it has the ability to invest in local currency denominated bonds on an unhedged basis but the majority of bonds are expected to be invested in in U.S. dollar-denominated bonds or hedged back to the U.S. dollar. Long-term, risk-tolerant investors who want to diversify their bond portfolio may wish to consider this fund.

Conclusion

Equity mutual funds (-$9.8 billion) experienced their twentieth straight week of net negative flows. Both domestic equity funds (-$6.4 billion) and nondomestic equity funds (-$3.4 billion) were hit hard by the net outflows. For the year to date, equity funds have experienced net outflows of more than $79 billion, with more than 80% of that total attributable to domestic equity funds (-$66.5 billion). If this course continues in the second half of the year, domestic equity funds will suffer their sixth consecutive annual net outflow, and their thirteenth in the last 14 years.

- Lipper U.S. Weekly FundFlows Insight Report: Funds Take In Net New Money For The Fourth Straight Week, Patrick Keon

In last week's article, "Risk Managed Portfolio: Seeking Income And Safety," I took a deeper look at how these Lipper Categories perform during each stage of the Investment Cycle and profiled TCW Strategic Income (TSI) in the Fund Spotlight. Closed end funds, including TSI tend to be more volatile than ETFs and Mutual Funds. From an income perspective, TSI is currently yielding 6.3%.

GDPNow estimates the second quarter growth in real GDP to be 1.4% while the Survey of Professional Forecasters estimates the probability of negative growth to be over 20% in the first quarter of 2020. In this environment, my preference is to have 25% to 35% in equities, high allocation to quality bond funds, and including diversification among lower risk funds such as those in the Short List.

I evaluated my portfolio using Portfolio Visualizer adding Vanguard Emerging Markets Bond Fund (VEMBX), though unknown and unloved, to see what the effect was. As a result, I traded a portion of a global equity fund with a lower Sortino Ratio and higher drawdown for VEMBX.

Disclosure: I am/we are long VASIX, VTINX, VMNVX, FPNIX, SPLV, FXU, FMSFX, FHIFX, FIKFX, FRIFX, FIUIX, VEMBX. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I am an engineer with an MBA nearing retirement and not an economist nor an investment professional. The information provided is for educational purposes and should not be considered as advice. Investors should do their due diligence research and/or use an investment professional. I am employed in the precious metals industry.