(11/11/14) Queasy? Try Growth and Income Funds

If the market decline and resurrection left you feeling a bit queasy, Fidelity’s slate of growth and income (G&I) funds may help to ease your worries, suggests John Bonnanzio, editor of Fidelity Monitor & Insight.

Unlike pure stock funds that emphasize capital appreciation and pay no attention to income, dividend income is a far more important component of a growth and income fund’s total return stream. Another hallmark of a G&I fund: its yield must typically exceed the S&P 500 (SPX).

Let’s begin with Fidelity’s all-equity funds whose primary objective is growth, but whose secondary objective is yield. There are five such offerings: Equity-Income (FEQIX), Equity Dividend Income (FEQTX), Growth & Income (FGRIX), Mega Cap Stock (FGRTX) and, more recently, Dividend Growth (FDGFX).

In the latter case, a new manager (Ramona Persaud) repositioned the fund to reduce risk and elevate yield to where it’s now higher than the S&P 500’s current 2.0%. Still, its investment objective remains growth…not income.

Moreover, as we calculate relative volatility over the fund’s prior 36-months, 1.20 likely overstates Dividend Growth’s true risk. As for its all-equity peers, their relative volatilities presently hew closer to the S&P, though their yields are higher.

A quick note: Mega Cap Stock has a decent yield of 2.2%. But the primary attraction is its potential to provide capital gains by investing in the market’s very largest companies. In so doing, we expect its volatility to deviate no more than 10% from the S&P 500.

Quite distinct from the all-equity variety of G&I funds are Fidelity’s two, less risky balanced funds. They’re better sleep-at-night alternatives; risk is reduced because they hold lots of investment-grade bonds.

And, when appropriate, Balanced (FBALX) and Puritan (FPURX) also hold higher-yielding junk bonds, typically in the single digits.

While junk helps to increase yield, it adds risk relative to the fund’s more plain vanilla bonds, though even they are significantly less risky than the fund’s equity holdings which, by the way, skew towards the large-cap value camp.

With their neutral asset allocations to stocks and bonds of about 60%/40%, Puritan and Balanced funds’ volatilities (risk) are nearly 30% lower than the S&P 500.

This contrasts with Fidelity’s equity-only G&Is whose average volatilities are 4% higher than the market. In a nutshell, bonds are why they’re less risky.

Regardless of your investment objective, growth and income funds alone are inadequate substitutes for a well-diversified portfolio. If you’re taking a page from our playbook, use either Balanced or Growth & Income in conjunction with other funds if you want a more conservatively positioned investment portfolio.