U.S. Stock Funds Fell 4.58% In Q2, But Rallied 3% In June

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Mutual Fund Quarterly

Another year, another tough second quarter for stock funds. After surging 12.32% in the first quarter, U.S. stock funds fell 4.58% in Q2, bringing their year-to-date gain to 7.03%, according to Lipper Inc.

A market rally begun in early June saved stock funds from a worse drubbing.

Most of the weight came from familiar areas: persistently weak employment in the U.S., a eurozone wobbling with debt issues, companies sitting on idle cash waiting for clarity on the business environment, individuals and institutions shifting into bonds with each new bout of bad news.

The Nasdaq composite was down 2.51% in Q2, the S&P 500 3.29%. The yield on the 10-year Treasury dropped to a near record low of 1.67% from 2.23% on March 31.

Bond funds were broadly higher in Q2. The average taxable bond fund rose 1.26%, with 1.05% of that coming in June. Treasury funds rose 4.91%, with 0.88% having been shaved off in June. High-yield funds rose 1.13%.

This year's Q2 was worse for stock funds than last year's, when stock funds fell 0.35%.

The inputs to the outlook for the rest of the year include the still-unresolved issues of the eurozone, world growth, U.S. policy and the November elections.

Corporate fundamentals are following a familiar course, with analysts polled by Thomson Reuters trimming expectations for earnings growth as the year rolls on. Analysts see Q2 earnings rising 5.8% from a year earlier. That view is down from 9.2% at the start of the quarter.

All but a few sector fund categories booked losses in Q2. Precious metals led with a 13.44% decline, with global natural resources the other double-digit decliner with an 11.72% tumble.

Bucking the trend, health/biotech rose 1.84% and utility climbed 2.53%. June put a different complexion on performance as most major sector categories were up, led by global health/biotech rising 6.01%.

World equity funds fell 7.17% in Q2, harder than U.S. equity funds, but were able to stage a stronger rally of 4.6% in June.

Though a market rally is under way, some strategists see less than clear sailing for the rest of this year and next.

Russ Koesterich, Global Chief Investment Strategist for BlackRock's iShares business, said in a June 22 blog that he thinks the U.S. will avoid another recession.

The reasons: Despite the eurozone's persistent debt problems, Koesterich sees it stumbling toward a solution. Economic leading indicators remain stable, indicating continued modest expansion. In addition, oil and gasoline prices are down, providing relief for consumers.

Koesterich is less sanguine about 2013. Higher taxes and spending cuts, set to hit early next year, could be enough to pull the economy back into a recession, he says.

Because of the uncertainty, Koesterich continues to favor a defensive stance. He likes iSharesHigh Dividend Equity ( HDV ),Emerging Markets Dividend Index ( DVYE ),S&P Global Telecommunications Sector Index ( IXP ) andMSCI All Country Minimum Volatility Index ( ACWV ).

Hodges Optimistic

The market's second-quarter swoon was due mainly to investor reactions to the eurozone's credit crisis and concerns over signs that U.S. GDP growth is slowing, says Craig Hodges, manager of Hodges Small Cap and of four other portfolios in his namesake fund family with $336.7 million in total assets.

"It tells me that when we finally get that news that the economy is gaining traction, six months or a year out, there's so much demand on the sidelines that we will see a significant move in the market," he said.

He added that he is not that concerned about the market's recent volatility. "Three-quarters of the volume is computer trading," he said. "When there's that much volume not investing on fundamentals, day-to-day fluctuations don't mean much. You go through extended times when fundamentals don't matter. It creates a lot of mispriced stocks and a lot of inefficiencies. Those are waiting to be taken advantage of."

The best performing style-market capitalization category in Q2 was equity income and large-cap core. Health care and real estate were the top performing sectors.

"That absolutely reflects a flight to safety," Hodges said. "The more fearful and treacherous the market seems, the more you see money go to more defensive names and bigger companies that pay dividends."

As for why the real estate sector is a leader, he conceded he does not have a view.

Years of outflow from U.S. equities will also benefit big-cap stocks. "The best area in the first part of a move back will be blue chip companies, bigger names," he said. They will get a boost from the fact that they are undervalued in comparison to small and midcaps.

Hodges'US Airways ( LCC ) holding is up about 160% this year. It started Q2 below 8. Now it's trading above 13. Airlines have spent years consolidating, slashing costs and creating new revenue through fees for baggage and preferred seating.

"They've right-sized their businesses for a world with $100 per barrel oil. And here we are sub-$80," Hodges said. "I've seen estimates that US Airways could earn as much as $4 per share next year. So it's cheap around 13 if sub-$100 oil stays, and that's a high probability."



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



This article appears in: Investing , Mutual Funds

Referenced Stocks: ACWV , DVYE , HDV , IXP , LCC

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