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Craig Allen: Apple’s Fall Underscores Misunderstood Risks in Mutual Funds

Most investors assume that mutual funds are relatively safe investment vehicles, often because that’s what mutual fund companies tell them. The reasoning is that because mutual funds are well-diversified — they own a bunch of different investments — the risk in the fund is spread over these many investments and no single investment accounts for a large percentage of the total fund value. A little-known fact is that very few mutual funds distribute their investment capital evenly over the various investments contained in the fund. Instead, they tend to focus the majority of their money in their top 10 holdings, which results in a much higher risk profile for the fund than would be the case if the fund evenly distributed its assets.

Mutual funds do this because they believe that their top 10 positions are the best opportunities, and they feel incredible pressure to outperform their benchmark index and their competition. The result is that the risk in these mutual funds is much higher than one would expect, and is much higher than those who sell mutual funds typically convey to investors.


The recent collapse of Apple — which lost roughly $60 per share, or about $56 billion in market value, last week — underscores this problem. About 13 percent of the total outstanding shares of Apple are held by only 27 mutual funds (FactSet). The largest single holding of Apple stock is with the Fidelity Contrafund (FCNTX), which holds 12.1 million shares, making up roughly 7 percent of its portfolio.

Apple’s stock accounts for 3.6 percent of the Standard & Poor’s 500, 10 percent of the Nasdaq Composite and 15 percent of the Nasdaq 100, giving it an outsized effect on these broader market indexes and the index funds tied to them. Apple has lost about $92 per share so far this year, which equates to about $86 billion in value, while the Dow has gained 6 percent, the S&P 500 has gained 5.4 percent and the Nasdaq Composite has gained 4.3 percent. Clearly the market overall is no longer marching to Apple’s beat.

If the typical mutual fund owns 200 or more positions, then one would expect that it should have, on average, about 0.5 percent of the fund’s total value in each position, if it were as diversified as possible. Here’s a look at funds with at least 15 percent of their portfolios concentrated in Apple, based on data compiled from FactSet:

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I don’t have to tell you the negative impact that Apple has had on the value and performance of these funds over the past week and year-to-date. Those investors who own these funds will get a shock when they receive their January statements!

The moral to this story is that mutual funds can be a lot more risky than they seem, and, more important, more risky than those who sell funds explain to their clients. Further, risk should be understood as the chance of losing money, and not simply volatility (we like upside risk).

When funds hold 15 percent or more in any stock, even one that is supposed to be as good as Apple, bad things can and do happen (we saw this in vivid relief last week with Apple). Investors should look at the top holdings of any mutual fund they are considering to purchase, to understand the concentrations the fund has in any individual stocks, and the increased risk that these concentrations add to the fund — before the investors buys shares in the fund. Those who have purchased shares of funds with heavy concentrations sold to them by an advisor should seriously question the advisor’s credibility as well.

Craig Allen, CFA, CFP, CIMA, is president of Montecito Private Asset Management LLC and founder of Dump Your Debt. He has been managing assets for foundations, corporations and high-net worth individuals for more than 20 years and is a Chartered Financial Analyst (CFA charter holder), a Certified Financial Planner (CFP) and holds the Certified Investment Management Analyst (CIMA) certification. He blogs at Finance With Craig Allen and can be contacted at .(JavaScript must be enabled to view this email address) or 805.898.1400. Click here to read previous columns or follow him on Twitter: @MPAMCraig. The opinions expressed are his own.

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