Updated Look at the 401(k) Offerings of the Pros

Investors hoping to find out where the pros put their own money may be interested to learn about the latest retirement plan wrinkle at Morningstar Inc., the Chicago mutual fund rating service.

About a year and a half ago, I reported that Morningstar employees could choose from among eight no-load mutual funds for their personal 401(k) investments. Earlier this year, the company dropped two of those portfolios and added six others.

Both the old and new lists are dominated by stock funds. This shouldn’t come as a surprise, considering that most of Morningstar’s employees are in their 20s and 30s.

A 401(k) plan is an employer-sponsored, tax-sheltered retirement program that imposes penalties on withdrawals made before age 59 1/2. Presumably, most of Morningstar’s workers won’t start redeeming shares for three or four decades, which should be more than enough time for them to fare well in the stock market.

Of the original eight funds, two growth-stock portfolios remain: Fidelity Disciplined Equity and Gabelli Asset.

Others surviving the cut were Lindner Dividend (an income fund), Vanguard World International Growth (international stock s ), T. Rowe Price New Income (corporate bond s ) and Vanguard Prime Reserves (money market).

Morningstar dropped Gabelli Growth and Janus Venture. One reason is that Gabelli’s portfolio manager, Elizabeth Bramwell, left the fund earlier this year to start her own investment company.

As for Janus Venture, which invests in small stocks: “We felt it was getting too large and conservative for its objective,” Morningstar spokesman John Rekenthaler said.

Janus Venture’s performance relative to other small-stock funds has deteriorated since 1991, when its assets rose to more than $1 billion. The fund has closed to new investors to help keep its size manageable, but assets remain about $1.4 billion--a hefty level for this type of portfolio.

The Brandywine Fund replaced Gabelli Growth in Morningstar’s 401(k) lineup. It’s run by a management team headed by respected stock picker Foster Friess.

But before you rush out to buy shares in Brandywine, make sure you have $25,000, the minimum initial investment required for both taxable and retirement accounts. All other funds named on Morningstar’s list have lower minimums, mostly $500 to $3,000.

Filling Janus Venture’s spot are two small-company funds: Fidelity Low-Priced Stock and PBHG Growth. These are complementary choices in that the former pursues a bargain-hunting value approach while the latter emphasizes the earnings and growth record.

PBHG Growth ranks among the riskiest funds on Morningstar’s list. It was down 13% from January through July of this year but has come back in recent weeks.

Another volatile new fund in the 401(k) plan is Montgomery Emerging Markets, whose largest holdings are in East Asia and Latin America.

“We’re sold on the emerging-markets concept,” Rekenthaler said.

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The remaining two additions are Selected American Shares and T. Rowe Price New Era. Morningstar picked Selected American because it’s now being run by Shelby Davis, whom Rekenthaler calls “one of the industry’s premier managers.”

T. Rowe Price New Era, a natural-resources fund, was chosen for diversification. The oil, mining and other commodity producers in which it invests tend to fare well during periods of inflation.

A closer look at Morningstar’s selections reveals that, in addition to having a stock market emphasis, most of the dozen funds share these traits:

* Well-diversified. Morningstar has generally shunned sector funds that bet all their chips on a single industry such as health care, finance or utilities. T. Rowe Price New Era is the one exception.

* Good results. In general, these funds have outperformed most close competitors in recent years. Fidelity Disciplined Equity, for example, has ranked among the top 20% of all growth funds over the past one, three and five years.

* Critical mass. All of these funds count assets in excess of $500 million. Mutual funds generally benefit from a larger size because their fixed costs can be spread among a wider shareholder base. The notable exception: Small-stock funds may, for various reasons, find that a large asset base makes them unwieldy.

* Moderate expenses. Most of the funds are inexpensive to own. Ten charge 1.3% or less in annual operating costs. Most impressive is Vanguard World International Growth and its expense ratio of just 0.5%, which is very cheap for a foreign fund. The two higher-cost portfolios in the group are Montgomery Emerging Markets (1.9% expense ratio) and PBHG Growth (2.2%).

In addition, 11 of the 12 Morningstar picks are commission-free. The exception is Fidelity Low-Priced Stock, which charges a 3% load.

With a dozen funds, Morningstar offers a wider investment selection than most other companies in their own 401(k) plans. Even so, employees would have little reason to hold all 12, since some are duplicative. The average Morningstar worker owns seven funds each, says Joe Sutton, the company’s chief financial officer.

Also worth noting: About 85% of Morningstar’s eligible employees participate in the 401(k) plan. Such a high ratio can be explained in part by the fact that the company has a generous policy of matching each dollar an employee invests.

The Morningstar Dozen

Here is information on the 12 mutual funds Morningstar Inc. has made available to its employees as part of the company’s revamped 401(k) retirement program. Included are Morningstar ratings for the funds. Ratings range from five stars (highest) to one star.

Fund Rating Type Phone Brandywine ***** Growth (800)656-3017 Fidelity (800)544-8888 Disciplined Equity ***** Growth Low-Priced Stock ***** Small-stocks Gabelli Asset **** Growth (800)422-3554 Lindner Dividend ***** Income (314)727-5305 Montgomery Emg Mkts No rating International (800)572-3863 PBHG Growth ***** Small-stocks (800)809-8008 T. Rowe Price (800)638-5660 New Era *** Natural resources New Income *** Corporate bonds Selected American *** Growth & income (800)243-1575 Vanguard (800)662-7447 Prime Reserve No rating Money market World Intl Growth **** International

Source: Morningstar Inc.