Another downside of active funds : Distributions!

[walkinwood]

An active fund in my portfolio since 2002 just distributed 86% (83% in cap gains dist) of the unrealized gains that I had accumulated in it over that period!

I had hung on to it because of the unrealized gains even as it under performed the index. This distribution made the decision to get rid of it easy.

Luckily, it was a small portion of the portfolio or it would have messed up my tax planning & budget big time.

 

[Big_Hitter]

ouch

 

[mathjak107]

what fund did that ?

 

[VFK57]

Many equities are down and I am afraid it is just the beginning. If equities purchased 10 years ago or earlier still have gains, all recent purchases are in the red.

 

[audreyh1]

An active fund in my portfolio since 2002 just distributed 86% (83% in cap gains dist) of the unrealized gains that I had accumulated in it over that period!

I had hung on to it because of the unrealized gains even as it under performed the index. This distribution made the decision to get rid of it easy.

Luckily, it was a small portion of the portfolio or it would have messed up my tax planning & budget big time.

Biggest I ever heard of!!! Yeah - tell us the fund. It wasn't FAIRX was it?

48% was the biggest I heard mention before that.

I had one distribute 33% and that really hurt. I sold my highest cost basis share before the record date, but had many very low cost basis shares left.

 

[bingybear]

An active fund in my portfolio since 2002 just distributed 86% (83% in cap gains dist) of the unrealized gains that I had accumulated in it over that period!

Are you saying it disributed 86% of the fund, or 86% of what your gains were in the fund.

Just think of someone who just bought a fund like this a couple months ago.

You have to expect distributions after a good uptrend followed by some instability.

Even index funds can distribute quite a bit if other investors pull out of the fund. But usually not a notable as some active funds.

edit --- the few mutual funds that I hold are in IRA accounts where the distribution is not an issue

 

[mathjak107]

i don't mind some of the typical distributions . it lessens the tax load down the road if you make changes .

nothing worse then dealing with 30 years of pent up gains in a taxable account at the same time rmd's in your retirement account kick in .

 

[audreyh1]

Are you saying it disributed 86% of the fund, or 86% of what your gains were in the fund.

Just think of someone who just bought a fund like this a couple months ago.

You have to expect distributions after a good uptrend followed by some instability.

Even index funds can distribute quite a bit if other investors pull out of the fund. But usually not a notable as some active funds.

edit --- the few mutual funds that I hold are in IRA accounts where the distribution is not an issue

Usually distributions are described as % of NAV.

Yes, you have to be careful not to "buy the distribution" in a fund. You don't want to buy a fund and then receive a taxable distribution shortly thereafter that has no relation to your personal gain in the fund.

Yes, it's much easier to take outsized distributions if a fund is in a tax-deferred account.

 

[walkinwood]

Are you saying it disributed 86% of the fund, or 86% of what your gains were in the fund.

My unrealized gains as I said below. (though I understand the confusion)

An active fund in my portfolio since 2002 just distributed 86% (83% in cap gains dist) of the unrealized gains that I had accumulated in it over that period!

The fund is T. Rowe Price Small Cap Value - PRSVX

 

[audreyh1]

My unrealized gains as I said below. (though I understand the confusion)

The fund is T. Rowe Price Small Cap Value - PRSVX

Ah - OK. The 33% NAV distribution that I mentioned above was about 90% of my gains in the fund. Now with a very low gain remaining I can decide whether to boot out the rest of it.

Hmmmm - with the market dropping these last few days it may already be at a loss......

 

[Another Reader]

I have several T. Rowe Price funds in a taxable account and I just looked them up. Ouch! 2015 must have been the year they decided to take profits. I wonder what other CG's are lurking out there in other funds....

 

[audreyh1]

I have several T. Rowe Price funds in a taxable account and I just looked them up. Ouch! 2015 must have been the year they decided to take profits. I wonder what other CG's are lurking out there in other funds....

Morningstar gives a "potential capital gain exposure" estimate as % of NAV in the mutual fund data sheets. It's worth checking out. Some funds who have had long winning streaks are quite high.

 

[Another Reader]

I guess I should be grateful for those long winning streaks and grin and bear the long term capital gains tax. Somehow, I'm just not happy!

It does make me wonder why all of these funds sold so many holdings this year. What did the managers see? What was replaced, why, and with what? That's a project for tomorrow morning.

 

[audreyh1]

I guess I should be grateful for those long winning streaks and grin and bear the long term capital gains tax. Somehow, I'm just not happy!

In some of my recent funds with high cap gains distributions I have been in the fund 15 years or more, so the realized cap gains correlate with what I had earned anyway.

But the poor investor who loaded up on the fund in a taxable account well after a long winning streak - they can get hit with these large taxable distributions without enjoying the winning streak!

It does make me wonder why all of these funds sold so many holdings this year. What did the managers see? What was replaced, why, and with what? That's a project for tomorrow morning.

I suspect a lot are from people heavily selling (redeeming) funds that were winners in the past - maybe due to changes in management, or the streak came to an end, or the asset class is out of favor, or whatever - forcing these funds to sell some of their holdings and realize the gain.

 

[N02L84ER]

I suspect a lot are from people heavily selling (redeeming) funds that were winners in the past - maybe due to changes in management, or the streak came to an end, or the asset class is out of favor, or whatever - forcing these funds to sell some of their holdings and realize the gain.

I have wondered about this. If I purchase 1000 shares of FundX in a taxable account in 2009 and sell those shares in 2015 for a long term capital gain of $50,000 and the Fund company is forced to sell some holdings in order to pay me, I know I have to report the $50K LT cap gain, but do the remaining shareholders get stuck with a potentially taxable gain because of my sale also? Isn't this double taxation?

 

[bingybear]

I have wondered about this. If I purchase 1000 shares of FundX in a taxable account in 2009 and sell those shares in 2015 for a long term capital gain of $50,000 and the Fund company is forced to sell some holdings in order to pay me, I know I have to report the $50K LT cap gain, but do the remaining shareholders get stuck with a potentially taxable gain because of my sale also? Isn't this double taxation?

Possibly. The will likely sell some holdings to pay you if they don't have some small cash holdings to handle some level of redemption. If they sell some internal investments, they might use some that do not have again which would not cause a distribution and thus not create another tax.

When a fund changes an internal investment or rebalances .... these can be the cause of taxable distributions.

Is this "double tax"? I don't see it that way. If they can't find a non-taxable way to pay for your redemption, then the act of selling an internal investment causes a taxable event. This a different event then you selling at a gain. You would still pay the same gain even if they provided your redemption without creating another taxable event. Your redemption may have caused the fund company to make another trade.

 

[audreyh1]

I have wondered about this. If I purchase 1000 shares of FundX in a taxable account in 2009 and sell those shares in 2015 for a long term capital gain of $50,000 and the Fund company is forced to sell some holdings in order to pay me, I know I have to report the $50K LT cap gain, but do the remaining shareholders get stuck with a potentially taxable gain because of my sale also? Isn't this double taxation?

No - not double taxation. But if the fund manager doesn't have enough new money coming in, or have enough cash on hand to cover the redemption, yes, he'll have to sell something, and that migh realize a capital gain which will ultimately be passed on to the other shareholders.

But the remaining shareholders can always sell their shares to realize the difference between their actual gain and anything paid out as a distribution, so it eventually works out.

 

[adrift]

The fund is T. Rowe Price Small Cap Value - PRSVX

The distribution was ~18.5% of the prior day's NAV.

This fund has a pretty good long term track record. In the last few years, not so much.

The long term manager had a record of buying winners and holding onto them for a long time. So, it had low turn over and a lot of built up capital gains. The manager retired in 2014 and the new management is putting its stamp on the fund. This has resulted in the large distribution. It is a risk with active managed funds.

I hold this fund with shares purchased between 1995 and 2007. Like the OP, I've held on because of the tax consequences. When I saw the estimated distribution, I sold a portion of the fund with the highest cost basis before the distribution date, took a capital gain, and purchased an index ETF with similar holdings. It'll reduce my 2015 tax obligation by only a trivial amount. But, it reduces my future exposure to this happening again.

Given the recent decline in the market, I'm contemplating selling more PRSVX and buying an equivalent amount in the ETF.

 

[adrift]

It wasn't FAIRX was it?

You made me look.

I calculate the distribution to be 39.9% of the prior day's NAV.

And it looks like it's down 13.2% YTD.

I wouldn't be happy.

 

[adrift]

The fund is T. Rowe Price Small Cap Value - PRSVX

Above, I attributed PRSVX's large dividend to a change in management.

I think there's an additional reason that PRSVX has spit out a large dividend. In the 18 months from 4Q 2013 through 2Q 2015 (latest information available), the assets under management has dropped by 12.7%. The return for that 18 month period is slightly positive. So, there is an outflow from the fund. To satisfy redemptions, management must be selling and realizing capital gains.

Some of the outflow is certainly because of the change in management.

In response to the large dividend, the OP liquidated his/her position. I liquidated part of mine. If this is a common reaction, fund outflow will continue which will force management to realize more capital gain and of course pass that along in a future distribution. This tax inefficiency may well be self-reinforcing.

If I remember correctly, the last time Vanguard's Total Stock Market Index Fund passed along a capital gain as part of its distribution was in 2000.

 

[walkinwood]

Interesting information, Adrift.
I am keeping a close eye now on the remaining actively managed funds I have and will probably start taking cap gains and move the proceeds to index funds. I just don't have the time (can't be bothered) to keep track of managers and portfolio changes. Of course, with the proliferation in the number of indexes for each asset class, index funds have their own issues.

What's a man of leisure to do!

 

[Willers]

This was a painful lesson learned late in my investing lifetime. It has been painful paying gains at a rate 23 ppts higher than in retirement. A good reminder for those young investors out there that have growing incomes.


Sent from my iPhone using Early Retirement Forum

 

[bingybear]

Interesting information, Adrift.
I am keeping a close eye now on the remaining actively managed funds I have and will probably start taking cap gains and move the proceeds to index funds. I just don't have the time (can't be bothered) to keep track of managers and portfolio changes. Of course, with the proliferation in the number of indexes for each asset class, index funds have their own issues.

What's a man of leisure to do!

I moved all MF out of my taxable accounts last December (remaining ones that is) and just invest in ETF and individual issues. MF often distribute large distributions after a good run up in value. Active funds seem to show this more. This is likely due partially these MF making tactical changes. The other cause is people redeeming funds. I wonder if this might eventually cause the same effect on index funds with the BB pulling assets to live on. Eventually even index funds will have to sell shares with high gains to pay redemptions.

I still have some MF, but in IRAs. The distributions have been quite large. However, it really has no effect in IRAs. Only total returns are important.

 

[mpeirce]

I moved all MF out of my taxable accounts last December (remaining ones that is) and just invest in ETF and individual issues. MF often distribute large distributions after a good run up in value.

Don't ETF's have distributions as well?

For example, I looked up the ETF VTI and the similar MF VTSMX. At Vanguard, they both list similar quarterly distributions (dividends).

What am I missing?

 

[bingybear]

absolutely. One difference is most of the trading is done between the buyer and seller in the market and does involve the MF company at all. Thus no selling the the fund in these cases. To add or subtract shares can go through authorized participants [AP] and and the fund can distribute higher gain shares when the AP liquidate shares. This can help reduce some of the distributions.

But yes, I do get some dividends (mostly qualified) and CG (mostly long term) with in ER costs me next to nothing. Obviously this is excepting the income ETFs/ETNs that kick off ordinary income by design.