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Annual Mutual Fund Review & Outlook : Selection of Investment 'Hedges' Looks a Bit Scrawny : Safeguards: Gold funds performed well in '93, but question of continued demand clouds future performance.


With U.S. and global stock markets at or near record highs, many investors are beginning to ask the simple question: What if things go wrong when markets seem to be priced for everything going right?

That has sparked the search by some investors for a "hedge"--an investment that might go up, or hold steady, if stock funds suddenly go down because of a jump in inflation and-or interest rates, or some international calamity.

The problem is that hedges are hard to find for small players.

Gold funds were obviously a favorite hedge in 1993. The average gold fund rocketed 80.9% for the year, even though the price of gold bullion rose just 17%.

If inflation does surprise everyone in 1994, gold will probably get an additional lift, says Victor Flores, manager of the United Services Gold Shares fund in San Antonio. Likewise, gold should benefit, at least temporarily, from any unforeseen international turmoil.

But Flores said he believes gold bullion has been moving up not on inflation fears, but on simple supply and demand: Third World consumers and investors have been boosting their gold holdings (often merely via jewelry purchases) at a time when gold mine production has been waning worldwide.

Thus, if demand should trail off, and inflation doesn't materialize as a major problem in the United States and Europe, Flores says, the gold-mining shares in gold funds could be vulnerable.

"The stocks are expensive, but they've been expensive all along," he says. He figures that North American gold-mining shares' prices now anticipate a gold price of about $450 an ounce, compared to the current price of about $394. "Either you get gold to that price or the stocks come down," Flores says.

Two other classic hedges, at least against inflation, are real estate and commodities. While there are stock funds specializing in equities in those fields, their use as hedges is limited, experts say.

Natural resources funds, the category closest to qualifying as a commodity investment, are usually heavily invested in energy stocks. The problem there: While other commodity prices have been rising recently, oil's price has plunged.

Likewise, real estate funds could be helped if inflation returns and investors' appetite for real assets surges. But higher inflation would also mean higher interest rates. And many real estate funds own real estate investment trust shares, which are viewed as bond substitutes and thus get whacked when interest rates jump.

In short, for the average fund investor, there is no great universal hedge, says Michael Lipper of fund tracker Lipper Analytical. Except for plain old cash, that is. If you're really worried about stock prices, Lipper says, just cut back somewhat on your stock funds and keep an above-average portion of your assets in money funds.

Non-Gold Hedge Funds?

Funds that specialize in natural resources and real estate might be ways to hedge against a return of inflation, but some experts say they're imperfect hedges at best. Recent performance of some funds in those groups:


Total inv. return: Fund (800-phone) 1993 5 years Vanguard Special. Energy (662-7447) +26.5% +90.5% Utd. Svcs.: Glo. Resources (873-8637) +18.5 +24.2 Dean Witter Nat. Res. (869-3863) +17.5 +60.2 T. Rowe Price New Era (638-5660) +15.3 +53.2


Total inv. return: Fund (800-phone) 1993 5 years Evergreen Glo. Real Est. (235-0064) +51.4% NA Templeton Real Estate (237-0738) +33.0 NA Fidelity Real Estate (544-8888) +12.5 +94.4

Source: Lipper Analytical Services

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