5 huge funds failing your 401(k)

By Tim Middleton

This is the first article in a two-part series on how some of the biggest mutual funds have fared in the financial meltdown. Part two: "5 funds to help you fix your 401(k)."

As if stocks this year haven't been bad enough, some of the most widely held mutual funds, particularly in 401(k) plans, are doing especially badly.

With the Standard & Poor's 500 Index ($INX) down 35%, some of the best-known funds from Fidelity, Vanguard, Dodge & Cox and T. Rowe Price are down between 40% and 50%.

That means a lot of everyday investors, including those whose portfolios lie mostly in retirement plans, are hurting worse than Wall Street is.

The Congressional Budget Office recently estimated that American retirement accounts -- pensions and 401(k)s -- had lost $2 trillion over 15 months. And that was only through the first half of this year.

Nobody, including me, likes to own losers. But I do own one of these battered funds and have never thought of selling it. Here's why, in hopes it might help you when you're figuring out how to salvage your savings.

2 reasons for a rout

It's relatively rare for the wheels to come off a long-established fund. When they do, the cause is usually one of two things: The manager's long-successful style is out of sync with current conditions, or a new manager has taken over.

The former problem is easy to overlook; even Warren Buffett has stubbed his toe again and again. The latter problem is thornier. You have to make an individual judgment.

I've put five underperforming winners under my lens, and I'm confident the problems at three of them -- Fidelity Magellan (FMAGX), Dodge & Cox Stock (DODGX) and Vanguard Total International Stock Index (VGTSX) -- are transitory.

In one new-manager situation, at T. Rowe Price Growth Stock (PRGFX), I'd recommend giving the new boss more time to be tested. Markets recently have been outside the experience of anybody in the business.

In the other new-manager situation, at Fidelity Small Cap Independence (FDSCX), I would be less indulgent. We hire fund managers to make decisions for us; decisiveness is what we're paying for with our fund fees. This new manager seems too tentative to justify our faith. If you own this fund, I would recommend swapping into something stronger.

Here's a closer look:

Fidelity Magellan

Once the mighty flagship of the nation's largest mutual fund complex, this $28.56 billion portfolio, while still one of the largest in the industry, is a shadow of its former self. Now one-third its peak size before the bear market of 2000-02, it has foundered for much of the past 20 years under a succession of bad managers.

That changed three years ago after Harry Lange was given the helm. In 2007, he led the fund to a return of 18.8%, beating the market by more than 13 percentage points.

This year, however, the fund has collapsed, closing Oct. 28 with a loss on the year of 49.6%, nearly 15 points worse than the S&P 500. Christopher Davis, who covers the fund for Morningstar, attributes the fund's woes to a series of bad bets, notably heavy forays into financials and technology, two of the year's worst-performing groups. The fund also has nearly a quarter of its assets in foreign stocks, which have been hammered even harder than domestic equities this year.

Yet Lange is considered one of the best stock pickers at Fidelity. He established an excellent record with other funds before taking over this one -- a record that began in the 1980s with Fidelity's tech-sector funds. His willingness to follow his convictions "has backfired in a dramatic way this year, but it's been Lange's ticket to success over the long haul," Davis says. The Morningstar analyst continues to like the fund.

T. Rowe Price Growth Stock

This outstanding fund, the first equity fund in the company's lineup, dating to 1950, has ranged among the top quartile of similar funds over the past decade. This year, though, it has tumbled into the 67th percentile, with a loss of 42.8%.

Manager Robert Bartolo, in his job just one year, attributes his underperformance partly to a large but shrinking allocation in foreign equities, down to little more than 10% at the end of the third quarter from 15% three months earlier.

Bartolo's sector choices have also misfired. The fund is light on consumer stocks, a relatively strong group, and heaviest on technology, which has taken a whipping as both capital and consumer spending has slowed. Top holdings include Google (GOOG, news, msgs), down nearly 50% this year, and Apple (AAPL, news, msgs), off nearly as much.

Bartolo has a thin résumé, listed as a portfolio manager at T. Rowe less than three years. But the company has an excellent reputation for the discipline of its growth-oriented investment process, meaning the portfolio manager is supported by a large team of managers and analysts, as well as a valuation-sensitive corporate culture. This fund is likely to rebound as markets become less tumultuous.

Continued: Dodge & Cox Stock

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