Good News for Those Who Seek Growth Potential but Are Wary of Risk

Charles Dobson has a record that most of his rivals would envy: no money-losing years for as long as he’s been a mutual fund manager, which stretches back to July, 1978.

Dobson runs the Analytic Optioned Equity Fund from a modest office in Irvine, just a stone’s throw from John Wayne Airport. His is a conservative fund, so you won’t often find it ranked among the list of top performers in any quarter or year. But there’s something to be said for consistency, especially if you believe that stocks and stock funds are now overpriced. “We’ll capture only two-thirds or three-quarters of the upside move in a rising market,” Dobson says. “But we’ll fall only half as much in a down market.”

Funds such as Analytic Optioned Equity are good news for especially risk-averse individuals who want some stock market growth potential but can’t tolerate many bumps along the way. Fortunately, if you look hard enough, you can find a couple dozen portfolios that offer at least some equity exposure while keeping risk to a minimum. They’re defensive investments that win games with goal-line stands, not Hail Marys.

Most of these steady equity players tend to have significant stakes in bonds, cash or high-yielding stocks (which sometimes behave like bonds because of their hefty dividends). They’re designed as all-weather holdings, and some don’t even offer a money market switch alternative, reasoning that a safe haven isn’t required. By holding different types of assets, these low-risk equity funds are hedging their bets anyway. A few, like Analytic Optioned Equity, hedge more directly by writing, or selling, call options against the stocks owned.

How safe are these ultra-conservative selections? That depends on how you define risk. One of the easiest ways is to look at past performance, preferably on a yearly basis so you can see how well the fund held up in rough markets such as 1990, 1984 and 1981. You can get this information from the fund company, as well as from publications such as Mutual Fund Values or the less costly IBC/Donoghue’s Mutual Funds Almanac.

Another way to measure fund risk is by looking at the “beta” coefficient. This is a number, ranging from 0.0 on up, that tells how closely an investment moves with the market or, more precisely, a market indicator. For stock funds, the relevant benchmark is the Standard & Poor’s 500, which has arbitrarily been given a beta of 1.0. “The higher the beta, the greater the risk,” notes Jae K. Shim, an investment adviser and professor of finance at California State University, Long Beach.

On average, aggressive growth funds sport a beta of 1.06, according to Mutual Fund Values, meaning that they will typically rise 6% more than the S&P; 500 during upswings and fall 6% more during downtrends. Technology-sector funds carry a beta of 1.25, suggesting that they’re significantly more volatile. On the other end of the scale, utility, option, asset allocation and balanced funds all have betas of only about 0.60.

However, beta numbers don’t accurately gauge risk for certain types of funds. For example, international portfolios carry an average beta of 0.70. Are they conservative? Hardly. It’s just that they don’t move in lock-step with the S&P; 500. As an even more extreme example, consider gold funds, which have an average beta of just 0.19, according to Mutual Fund Values, yet have on several occasions gained or lost 35% or more in a given 12-month period.

Perhaps a better measure of mutual fund risk is “standard deviation.” This statistical tool shows a probable range in which a fund will rise or fall, based on its fluctuations in the past. Any movements within that range should be considered normal, says Treanna Allbaugh, co-editor of the MPT Fund Review newsletter in San Francisco. She and many other analysts consider standard deviation to be the most reliable indicator of a fund’s potential risk.

The rule here is simple: The higher the standard deviation, the wider the possible range of investment returns--both positive and negative--and thus the greater the risk. The advantage of standard deviation is that it’s an absolute risk measure, rather than a relative one like beta. That means you can look at different types of funds on the same footing.

For example, gold funds have standard deviations of about 6.0 on average, as calculated by Mutual Fund Values, and the numbers are even higher for certain international portfolios that invest largely in Japanese stocks. The most conservative equity funds have a standard deviation of 2.0 to 3.5 or so, if not lower. It’s 2.35 for Analytic Optioned Equity, in line with the fund’s low beta of 0.6.

Various publications track standard deviation, beta or both, and it’s worth noting that they sometimes calculate slightly different results for the same fund, based on the time frames under consideration and other factors. “These measures should cover at least three years (of data) to give the most accurate picture about the risk and instability of the fund,” Shim says.

And, of course, they should be analyzed together with other mutual fund selection criteria, such as fees, investment objectives, shareholder services and the portfolio manager’s experience.

Safe and Sane Stock Funds These portfolios contradict the notion that equity investments are always volatile. None has lost money in any of the past 10 calendar years. In addition, each has a relatively low beta and standard deviation--two common ways to measure risk. All are designed as conservative, long-term holdings.

Average Sales Fund Type Return* Load Minimum Analytic Optioned Equity O +11.0% None $5,000 Beacon Hill Mutual G +11.7% None None Eaton Vance Investors B +12.7% 4.75% $1,000 Federated Stock & Bond B +13.3% None $25,000 Investment Company of America GI +16.5% 5.75% $250 Merrill Lynch Capital-Class A GI +15.0% 6.5% $250 Phoenix Growth G +19.4% 6.9% $500 Sovereign Investors GI +15.2% 5% $30

Fund Phone Analytic Optioned Equity 714-833-0294 Beacon Hill Mutual 617-482-0795 Eaton Vance Investors 800-225-6265 Federated Stock & Bond 800-245-5000 Investment Company of America 800-421-0180 Merrill Lynch Capital-Class A 609-282-2800 Phoenix Growth 800-243-4361 Sovereign Investors 215-254-0703

Average return: Compounded annual result for 10 years through June 30, 1991.

Fund types: O option; G growth; B balanced; GI growth and income.