Some investors are finding themselves stuck with mutual-fund firms' laggards.

Share story

The only people who like bad mutual funds are the people who run them.

But when a mutual-fund firm buys one of its own laggards for investors — or recommends through an advisory service that investors purchase one of its stinkers for “asset-allocation reasons,” that love of a bad fund becomes costly for shareholders.

In the fund world, there’s an increasing movement toward funds made up of other funds, wrap programs and advisory relationships where a consumer allows a fund company to build a portfolio.

And in many cases, it seems like the management company really doesn’t want you to think about what’s in your fund, because it’s not always their best products.

Consider, for example, the Vanguard US Growth fund (VWUSX), clearly one of the worst funds in the firm’s large stable of offerings.

US Growth is a laggard by virtually everyone’s standards. It gets the lowest possible marks from Lipper for total return and preservation of capital.

It gets two stars from Morningstar — meaning it has historically generated poor returns for the amount of risk management it has taken on — and it is significantly below average in its large-growth peer group over the one-, three-, five- and 10-year time periods.

Vanguard changed managers several years ago; it hasn’t helped much.

And investors have noticed. In 2000, Vanguard US Growth had more than $20 billion in assets. Today, there’s about $5 billion left.

Here’s the rub — a lot of the money that’s stuck around was put there by Vanguard, on behalf of funds like Vanguard STAR and Diversified Equity, which invest in sister funds. Ordinary investors have left the fund, while the firm fiddled the same asset-allocation tune; nearly one out of five dollars in US Growth was put there by Vanguard STAR.

“You’re trusting a fund company to allocate your assets — not just Vanguard, but a lot of firms — and they’re not necessarily paying attention to the performance of any individual fund,” says industry consultant Geoff Bobroff, of East Greenwich, R.I.

“The board may put a fund on its watch list, but they never make the connection that if they have to put a closer watch on performance that maybe they shouldn’t let sister funds put shareholder money into it until the issue is resolved,” Bobroff said.

“We’re not letting past performance drive future decisions,” said a Vanguard spokeswoman, Rebecca Cohen. “We think the advisers in place now have good processes, and the drivers for good future performance are there.”

Management may believe that — and their patience may ultimately pay off for shareholders — but accepting the in-house laggard will never sit well with many investors.

“This may be the price you pay for convenience, for having a fund family allocate your assets rather than doing it yourself,” Bobroff said.

Chuck Jaffe is senior columnist at MarketWatch. He can be reached at cjaffe@marketwatch.com or Box 70, Cohasset, MA 02025-0070.