The Four Best Actively Managed Mutual Funds With Low Expense Ratios

While Vanguard index funds are my usual investments of choice, I do recognize the value of a high-performing actively managed fund. I don’t want to get into the actively-managed vs index fund debate here: suffice it to say they both have their uses. There are many reasons why you might want to invest a small portion of your portfolio in an actively-managed fund: it satisfies your lust to attempt to beat the market without causing too much long-term damage, gives you a real (albeit small) chance of earning above-average returns, and is just plain fun.

Characteristics Of A Good Actively-Managed Fund

That said, all actively-managed funds certainly aren’t created equal. In order to have any reasonable chance of out-performing the averages, you should look for the following characteristics.

• Low expenses – All else being equal, low-cost funds will tend to out-perform high-cost funds. The best actively-managed funds tend to have below-average expenses. You can check a fund’s expense ratio using a free Morningstar account (I highly suggest you sign up for one if you haven’t already). Ideally, you’ll want a fund sporting an expense ratio of 1% or less.
• A long history of strong returns – Who cares if a fund beat the market last year or the year before? The real test is whether or not it’s beat the market over a period of 10-15 years or more. Very few funds have managed to achieve this, so that’s where we’ll want to concentrate our efforts. Why bother with the stragglers?
• An experienced manager – Strong long-term returns don’t mean much if the manager who achieved those returns is no longer in charge, as investors in Fidelity’s Magellan fund learned after Peter Lynch retired.  My list of the best international mutual funds all have experienced managers, for example, but that’s no guarantee those managers will stick around.  Buyer beware.  This is but one of the many reasons I usually recommend index funds.

The Four Best Actively-Managed Mutual Funds

Keeping the above requirements in mind, I’ve narrowed the entire universe of actively-managed mutual funds down to four of the best, excluding sector funds in an effort to maintain adequate diversification. The following funds may not always have the highest returns, but in my opinion represent the best value for your money and good risk/return prospects.

Dodge And Cox Stock (DODGX) – This fund hit a serious road-bump this past year when it was caught with its pants down over-weighting the financial sector. Still, its long-term returns remain strong (top 5% returns over the past 10 years) and the financial meltdown is likely to be a once-in-a-lifetime occurrence. More importantly, Dodge and Cox hasn’t deviated one bit from its stated methodology, which has yielded stellar returns going back almost 50 years. Couple that with the fact that Dodge and Cox’s team-based investment approach means the fund isn’t reliant on any one star manager and you’ve got a winner. A very modest 0.52% expense ratio doesn’t hurt.

Artisan International (ARTIX) – This one’s expense ratio is a bit higher than I’d prefer at 1.22%, but you can’t argue with manager Mark Yockey’s stellar long-term track record. This fund has absolutely crushed the index since its inception in 1995 and Yockey had a fine record at another International fund in the 6 years prior to that. And 1.22% is actually significantly below average for an actively-managed international fund. Due to its high expenses, I wouldn’t allocate more than 10% or so of my portfolio to this fund, but the potential to outperform is definitely there. Just don’t get greedy.

Vanguard International Explorer (VINEX) – Vanguard is best known for its index funds, but investors should jump at the opportunity to buy this actively-managed gem. Long closed to new investors, this fund’s recent reopening is a great chance for investors to get actively-managed small-cap international exposure for the low, low price of just 0.36% per year (an ER practically unheard of for this asset class: even Vanguard’s international small-cap index fund costs almost twice that).

Third Avenue Value (TAVFX) – Marty Whitman is a Wall Street legend and author of two of my all-time favorite investing books, The Aggressive Conservative Investor and Value Investing: A Balanced Approach. Third Avenue Value has handily out-performed the indices for almost 20 years now, and is well-positioned to continue to out-perform in the future thanks to its loose investment mandate. Whitman can and does invest in all corners of the market based on whatever represents the best investment value. Again, its 1.11% expense ratio is a bit higher than I prefer, but in this case I believe you get what you pay for. This fund actually has a negative alpha over the past 3 years, which is a concern, but I believe this is a temporary phenomenon. Again, I wouldn’t allocate more than 10% of my portfolio to this fund, but if you insist on trying to beat the market with a small portion of your portfolio, you could do much worse than this fund.

Obviously, there are probably several other actively-managed funds which may be worth a look. Your best bet is to carefully examine each fund’s risk/return attributes on Morningstar and narrowing things down that way. But the above four funds are an excellent short list of the best of the best. Even if you never look beyond these four funds, you should do alright.