There you are, casually scanning the portfolio holdings of a mutual fund in which you have just invested, when the
sight of a couple of familiar stocks gives you a little jolt.
These guys own big positions in Sugarwater Industries and
Orinoco.com? Gosh, so do the two other funds I own. I thought I was
diversifying, spreading out my risks, but with these stocks I'm
just buying more of the same thing!
So goes your introduction to a nagging problem in the world of
fund investing. Call it duplication, redundancy, or portfolio
overlap whatever name you put on it, you find yourself
effectively paying two or three or more funds to own the same stock
in your behalf.
These days, overlap can be especially common, given that a few
dozen elite stocks have been hogging most of the glory in an
extremely selective market. With hundreds of stock-fund managers
trying to stay on top of this trend, many of them naturally
gravitate toward the same stocks. After all, that's where the money
So you can very easily wind up in a spot described by Olivia
Barbee, managing editor of the monthly Morningstar FundInvestor
newsletter: Your funds come in different wrappers, but the contents
may be all too similar.
If you pay no attention to it, this pitfall can defeat the
purpose of your diversification efforts: To keep you from being too
concentrated in any given stock or sector of the market.
Fortunately, though, there are several things you can do to
overcome overlap, or at least minimize it as a factor in your
financial life. They range from simple, rule-of-thumb principles a
casual investor can keep in mind, to more elaborate measures
suitable for activists willing to invest hours in front of a
Ms. Barbee's first suggestion: "Avoid funds run by the same
manager. Zebras don't change their stripes, and managers rarely
change their strategies. If you own two funds by Famous Manager A,
chances are you own two of the same thing."
And her second idea: Don't load up too much on funds from any
one "boutique" firm. "Janus is a growth specialist. Oakmark
means absolute value. Such fund families are excellent at what they
do, but it's questionable whether owning three of their funds gives
you anything you won't get with one."
Spreading your money among different fund families can make a
lot of sense on general diversification grounds. It helps ensure
that you are hiring managers with truly different viewpoints.
Doing this may increase your paperwork burden, but it's likely
to be worth the trouble. If you invest through a broker or
financial firm's fund marketplace, you may be able to keep most or
all of a widely diversified investment program in the handy
confines of just one or two accounts.
Also, pay regular attention to the investment styles of funds
you own or are thinking about buying. If you buy funds straight
from the top of the most recent performance lists without regard to
style or category, chances are you are going to own several
versions of the same thing (which may well be as out of favor next
year as it is popular now).
In the ideal, if you own half a dozen stock funds, some will be
domestic, but maybe one or two will be international; some will
emphasize big stocks, and others small stocks; some will follow a
growth philosophy, and others a value strategy.
Much better, in most cases, to own a little from each style
category than to try to figure out which type will prosper most in
the next year or two, and then bet accordingly. Funds, after all,
are designed to take the "betting" out of investing.
More from Ms. Barbee: "Scrutinize sector weightings. If two
funds from the same category sport similar sector weightings, they
may own many of the same stocks."
For the truly energetic, Ms. Barbee suggests, "Compare the
stocks in your funds' portfolios. Those who have the time and the
inclination can enter all of their funds' holdings into a
spreadsheet and sort by stock name." Morningstar and other fund
research firms sell software products that can simplify the job, if
you prefer putting money rather than time into the project.