Bolster your portfolio with US regional funds?

Some boast eye-opening returns, and proponents claim the fund managers can spot winning companies before the crowd catches on. But consider the drawbacks before investing.

By Leslie Kane
Senior Editor

Is business hot in your neck of the woods? Want to cash in on another region's prosperity? US regional mutual funds—which concentrate on companies that are based in a specific part of the country—offer a way to place your bets geographically. About 30 such funds exist, and some have posted spectacular returns.

Franklin California Growth Fund, for example, recently had a one-year return of 94.9 percent, and the Boyle Marathon Fund, which invests in companies in San Francisco and Silicon Valley, returned 48.1 percent. (All mutual fund returns in this article are through April 30, 2000. Individual stock prices are as of May 23, 2000. Where applicable, historical stock prices have been adjusted to reflect the value of subsequent stock splits.) For the same time frame, Standard & Poor's 500 Stock Index gained just 10.1 percent.

Based on one-year returns, at least six regional funds rank in the top 20 percent of funds listed by Morningstar, a mutual fund tracking service; four make the top 10 percent. More than two-thirds of the regional funds beat the S&P 500 on a one-year basis; around 60 percent of domestic equity funds did the same. Over three years, more than one-third of the regional funds beat the S&P, compared with a bit more than a third of domestic equity funds.

Not all regional funds have been doing well, however. For instance, the Maxus Ohio Heartland Fund, which holds many industrial cyclicals, had a one-year loss of 4.2 percent. Cincinnati Fund, which invests heavily in service companies, lost 7.3 percent for the year, and the Carolinas Fund—Investor Shares, which places big bets on the financial sector, lost 7.2 percent. Another minus: Close to half of the regional funds have front-end loads, which erode returns.

Still, are the best of these funds worth your consideration? Let's take a look.

Regional funds have the neighborhood edge

A key advantage of regional funds, say their proponents, is that their narrow scope makes it easy for fund managers to discover and get to know good companies. Seattle-based David Simpson, a portfolio manager for the WM Growth Fund of the Northwest, says a local focus helped him find Microvision, a company in Bothell, WA. Microvision develops technologies that allow electronically generated images and information to be projected directly onto the viewer's retina, for military, medical, industrial, professional, and consumer uses, including movie and television projection.

"I learned that Microvision had gotten some major contracts, so I dropped by to talk to management," says Simpson. "I was impressed with its plans, and we bought the stock at about 12 per share in 1999. Now it's around 25. If visiting them had required a plane trip, I might not have gone."

Michael Sidello, a vice president at New York State Opportunities Funds, in Syracuse, also believes that investing locally gives regional funds, including New York Equity, an edge. "We have the opportunity to learn about lesser-known companies on the rise," he says.

To illustrate, Sidello points to AppliedTheory. This leading provider of Internet solutions to businesses and other organizations put General Electric and Eastman Kodak on the Internet. "AppliedTheory went public in April 1999, and it wouldn't have shown up on many radar screens. We were aware of it because the company has a big presence in Syracuse," says Sidello. "We bought it at 22 last year; now it's around 17. We think it's a sleeper."

The WM Growth Fund of the Northwest has also sniffed out nearby winners. Portfolio manager Simpson homed in on Corixa, a Seattle biotech company. Corixa aims to discover and develop new types of vaccines and currently has a promising vaccine for psoriasis in the works. The company also has acquired an exclusive worldwide license to therapeutic rights for the Wilm's tumor gene, from the Massachusetts Institute of Technology.

"We bought into Corixa when it went public in 1997, at about 11 per share," says Simpson. "The stock soon lost more than half its value. I walked to Corixa's headquarters and talked with management. Our conversations restored my confidence that nothing was fundamentally wrong with the company. We kept buying it at 6; now it's up to about 29."

The advantages of placing geographic bets

Besides letting portfolio managers focus their efforts close to home, regional funds allow investors to make concentrated investments in places with strong economies. To get in on the boom in Silicon Valley, for example, you can invest in Boyle Marathon Fund and Franklin California Growth Fund.

Boyle's winners include TriQuint Semiconductors, which produces integrated circuits used in cellular telephones, satellite communications and navigations systems, and wireless communications networks. Boyle bought TriQuint in 1998 at about 6; it's now at about 73. Other holdings include JDS Uniphase, which makes and sells fiber-optic telecommunications, laser, and other components; Yahoo!, an Internet media, search, and navigational company in Santa Clara; and Qualcomm, which provides digital wireless communications products, technologies, and services, based on a patented technology.

Sitting in the cradle of technology has also paid off for Franklin California Growth Fund. "Our fundamental research lets us identify investment opportunities and keep close tabs on them," says Conrad Herrmann, a portfolio manager. "California's very diversified across industries, which helps mitigate risk. Silicon Valley's a hotbed of innovative companies, and we can get in on the ground floor with them."

The picture isn't entirely rosy

Are regional funds the best way to cash in on areas like Silicon Valley? Do they really make it easier for portfolio managers to spot winning companies? No to both questions, say critics of these funds.

"The regional funds' mandate is defined more by those who want to market them to a target audience than by an investment rationale," says Elizabeth McKown, a vice president at State Street Research & Management, a mutual fund company in Boston. "The major goal is to differentiate the fund from competitors."

As for using regional funds to place bets on a geographically focused economic sector, critics think investors are better off with sector funds. "Although many tech companies are clustered on the West Coast, a lot of great tech businesses are scattered throughout the nation," says Michael Goldston of Cambridge Equity Advisors in Brentwood, TN. "You're better off having the widest range of choice. You also get a shot at superior returns with a portfolio manager who concentrates only on technology, rather than a variety of industries."

While regional fund managers can find local winners, national portfolios often have an army of analysts, stock-screening techniques, and research tools equally capable of identifying up-and-comers. For a manager of a large national fund, it's no big deal to get on a plane and go wherever the action is.

"National fund analysts often focus by industry and sector, search deep into their particular lines, and are as likely to hear about new opportunities as local managers are," says McKown.

In fact, national funds may find more budding winners, which will have a greater impact on the portfolio, says Steve Booren, an investment adviser in Englewood, CO. "If a regional fund invested 2 percent of the portfolio in an amazing little company, even if the stock's share price tripled, it probably wouldn't make much difference in the fund's total return," says Booren. "The fund may need several outstanding companies to make a real difference, and funds that hunt nationally are more likely to spot them."

Another drawback of some regional funds is their lack of history. "You have no way to judge a new fund's performance in varying market conditions," says McKown. "Before investing, you should look at three- and five-year returns. You can't do that with many of these regional funds."

So should you bother with regional funds? Maybe, but be sure to evaluate them the way you'd evaluate any funds. Are they sufficiently diversified? Are they in sectors you want to be in? Do they invest in companies you consider promising? If you can answer Yes to these questions, buy them for the specific equities they offer, not because you expect to get an edge from the regional focus. If there's any particular magic in that concept, it has yet to be proven.

Regional mutual funds with impressive returns

*All returns through April 30, 2000. N.A.: Not available.

Source: Morningstar

 

Leslie Kane. Bolster your portfolio with US regional funds?. Medical Economics 2000;12:122.