Fund Profile: DFA U.S. Small Cap Value I
by Ann C. Logue
The first casualties in weak stock markets are almost always the growth stocks, those that have optimistic projections built into a high stock price. The value stocks tend to hold up better, because they were cheap to begin with. Sometimes, investors looking for alternatives to their overpriced growth stocks discover the downtrodden and dull, and that sometimes brings the prices of value stocks up. Combine that with the tendency of small-cap stocks to be cheap relative to their prospects, and it becomes a fine time to take a look at a small-cap value fund.
The DFA U.S. Small Cap Value Fund is down 3.94% through the end of January, compared to 4.65% for the category. Although performance has been weak over the past year, it shines over a longer time period. For the last five years, it returned an average of 18.39% per year, compared to a category annual average of 14.23%. The S&P 500, meanwhile, had an average annual total return of 11.63% over the last five years.
The U.S. Small Cap Fund defines small cap by a percentage boundary rather than a dollar value one, which makes sense as the small-cap cutoff goes up with inflation and average stock-market price appreciation. At least 80% of the stocks in this fund must be in the lowest 10% of total market capitalization of U.S. companies, or they must have a smaller market cap than the 1,000th largest U.S. company. Right now, the largest companies in the fund have market caps of about $2 billion. Within that group of small companies, the fund then screens to find those names with a low price relative to book value. Holdings are reviewed at least twice a year, and portfolio companies are evaluated on their price-to-book ratio and their market capitalization, not earnings growth or new product prospects. The most common reason for selling a position is that it simply appreciated too much in price to meet the fund’s market capitalization criteria. The portfolio manager, Robert Deere, oversees DFA’s U.S. equity funds and works with traders, not analysts, to determine when to buy and sell.
It’s hard to find out exactly what those holdings are, though. Dimensional Fund Advisors isn’t like most mutual fund companies. The philosophy is that investors need to worry more about diversification across asset classes rather than any particular investment, because it is that type of diversification that reduces risk and improves returns. It’s a straight application of the Modern Portfolio Theory. Because of that approach, the management of the Small Cap Value Fund — like any of the DFA funds — is more concerned with maintaining exposure to the asset class rather than with any individual assets that make it up.
Because DFA wants to make it easy for investors to have exposure to different sectors, the firm’s management doesn’t see the point of offering different product lines for different types of investors. Instead, it operates one master fund for each of its asset classes, and then its mutual funds invest directly within each master fund. This is unusual; most mutual fund companies would offer one portfolio for high-net-worth individuals, one for institutions, and still another as a mutual fund, even if all had identical investment criteria and similar holdings. In most cases, DFA’s structure is less expensive for the mutual fund investor because the fund’s operating costs can be spread over far more shares. And it is cheap. The DFA U.S. Small Cap Value Fund’s management fee is 0.50%, with a total expense ratio of just 0.53%. The entire Small Value category has an average expense ratio of 1.51%.
There’s no load and no 12b-1 fee, either. But here’s the drawback — the fund is not widely available. Individuals usually need to invest through registered investment advisors or bank trust departments. There is no minimum investment, although the fund has the right to redeem any account falling below $500. However, it’s likely that the firms handling the investments would have their own minimum transaction sizes and apply their own commissions or fees to the trade.
When the markets are rotten, any bit of outperformance is welcome, and the combination of small cap and value should keep investors happy. Still, this fund is best suited for investors who are looking for long-term exposure to an asset class rather than for any kind of consistent performance. Those who are fans of indexing (and I’m one) might want to see if they are able to get shares in this or other cheap and consistent DFA funds.
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