An investment that has a history of outperforming

By Investing Basics Consumer Reports

Mid-cap funds have long been the sweet spot for stock investors. Over the last five years alone, they have returned 19 percent, handily beating large-cap stocks, which make up much of the Standard & Poor’s 500 Index. They have also held their own compared with the more volatile small-cap stocks, which have stumbled this year.

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One reason mid-caps have been doing so well is that they have the best of both worlds. They’re as nimble as small-cap companies, and their earnings increase faster than at large-cap companies. Yet like large-caps, their earnings are less volatile than those of small-cap companies. And there’s a bonus: Mid-caps often distribute some of their profits to shareholders in the form of dividends.

We screened for actively managed funds that outperform the average fund most consistently. The search yielded a number of surprises. One was the Vanguard Strategic Equity fund, which had a 26 percent return over the 12 months ending in May of this year compared with 5 percent for the S&P 500. Although it’s actively managed, it still shares one quality with Vanguard’s passive index funds: low cost. With an expense ratio of 0.28 percent, its fees are well below the 1.3 percent average of other actively managed mid-cap funds, a factor that contributes to its impressive performance.

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Another curiosity was the Oceanstone Fund. The fund garnered attention for its exceptional performance in 2009 and 2010. It had an incredible 100 percent return during a 12-month period ending in May 2010. More recently, its performance hasn’t been keeping pace—the fund returned 13 percent in the last year—but it still outperforms the average mid-cap value fund 80 percent of the time.

There was a surprise even among the largest mid-cap exchange-traded funds. Although most of the mid-cap exchange-traded funds deliver similar returns, the iShares Select Dividend ETF is an outlier in that it hasn’t lost money during a single 12-month period since 2009, and it has generated a return in excess of 20 percent annually in the last five years. There’s no guarantee that its impressive performance will continue, but it attests to the power of dividend-oriented investments.

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If you’re considering buying into a mid-cap fund, you should know that investors have been bidding up prices recently. Mid-caps generally do well over the long term, often outperforming small-caps and large-caps, but they’re beginning to look pricey. The overall trailing price-to-earnings ratio for mid-caps rose to 21 as of mid-June, significantly higher than the S&P 500’s 18.3 price-earnings ratio.

—Chris Horymski

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