Asset Allocation in Action–Value vs. Growth Mutual Funds

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I like good values. Whether I’m buying a car, an investment property or a stock mutual fund, the last thing I want to do is overpay. For this reason, my portfolio is value overweighted. By the way, if the term overweighted is new to you, all it means is that the percentage of my portfolio categorized as value is greater than the percentage of the entire market that is categorized as value. To show you what I mean, here are two Morningstar Style Boxes. The one on the left represents my portfolio, the one on the right represents an S&P 500 index fund:

The numbers in the style box of my portfolio represent the percentage of my investments that fall within each asset class. You’ll see that as compared to the S&P 500, my portfolio leans toward value and smaller companies. We already discussed why I favor smaller companies. So why do I favor value companies? Returns, of course.

From 1927 to 1998, large value stocks have returned an average of 13.99%, while large growth stocks have returned 10.04%. The difference is even more stark with small cap companies, where small value returned 17.47% and small growth just 2.18%. These numbers come from an excellent book on asset allocation, The Intelligent Asset Allocator: How to Build Your Portfolio to Maximize Returns and Minimize Risk.

So how do I overweight my portfolio toward value? Well, I invest in funds that buy value stocks. Here are the value oriented funds that I own, along with the percentage of my portfolio represented by each:

• Allianz NFJ Small Cap Value (PSVIX): 9.77%
• Dodge & Cox International (DODFX): 2.45%
• Dodge & Cox Stock (DODGX): 9.57%

With respect to Dodge & Cox Stock, Morningstar now categorizes it as a blend between value and growth. Historically, it has been a value fund, but because many of the stocks it owns have done so well, it’s moved into the blend category. This is important to note, because mutual funds will change categories over time.

As always, I’m not recommending these funds or even my decision to seek out value funds—you have to make those decisions for yourself. But if I had to sum up my reasons for buying value funds, it would be this (which comes from Bernstein’s Intelligent Asset Allocator book): “Good companies are generally bad stocks, and bad companies are generally good stocks.”

I will say that many professionals recommend the value approach. In the Intelligent Asset Allocator, for example, Bernstein recommends a portfolio with 20% invested in value funds. Finally, if you stick with index funds, you should know that value based index funds are available. Vanguard has several, as does fidelity, and many other fund families.

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