Mystery capital gains Fidelity Mutual Fund

September 22, 2023 1:54 PM

I assist a senior relative with their finances. They have shares in FLPSX (the Fidelity Low Priced Stock mutual fund.) I just noticed a couple of deposits in their cash account- one was a payout of dividends from this fund and another was a surprisingly large amount of capital gains from this fund- north of $5k, which seems high given that their total holdings of this fund are currently worth less than $40K. The thing that's puzzling me is that the value of the fund has decreased significantly from when the fund was purchased- cost basis is about $47K

I understand (I think) that some of the individual stocks within the umbrella of the fund may have appreciated as the overall value of the fund has gone down. And I guess the fund managers have decided to sell off some of those "winners" thus generating capital gains even though the fund has lost value?

Q1.) Is my understanding /analysis of what has happened correct? If not please explain why
Q2.) is this a sign of excessive churning or bad management of the fund?

posted by Larry David Syndrome to Work & Money (6 answers total)

Was this recent, or from a couple of years back? There was a weird phenomenon a couple years back due to tax law changes that meant many mutual funds ended up having to meet a lot of redemptions, which meant selling an unusually large amount off, which meant everybody who held these funds in taxable accounts got a whopper of a cap gains distribution and thus tax bill.
posted by praemunire at 2:02 PM on September 22, 2023

Fidelity shows it having paid a 12 percent capital gains distribution a couple of weeks ago, so that matches what you saw. The Fidelity profile reports a 4 star Morningstar rating and growth generally tracking relevant indices, so it seems to be reasonably well managed, but it also shows a 39% turnover rate. If your relative has taxable income of over $45,000 or so, they will be paying a 15 percent capital gains rate, so it might make sense to move into a more tax-efficient fund. Fidelity should be able to provide guidance.
posted by Mr.Know-it-some at 2:11 PM on September 22, 2023 [3 favorites]

Just checked...they had a dividend/cap gains distribution on 9/8. All else being equal, the value of a stock drops after a dividend is paid to reflect the value of the dividend (and the value of a stock fund drops after a cap gains payment likewise). The cap gains distribution per share is about twice as big as last year's at this time, though, and I'm not sure why that is.
posted by praemunire at 2:13 PM on September 22, 2023 [1 favorite]

This looks to be an actively managed fund that roughly follows the Russell 2000 index. It used to be somewhat popular in that the manager apparently beat the index back in the 2000s (which really doesn't mean much). I believe now it quite often underperforms the index. It also has a relatively high fee at 0.8% or so compared to passive index funds.

For mutual funds capital gains could be due to active management selling stocks to balance risk, or it could be to pay out funds as more people leave the fund than join. Either way really high turnover somewhat explains the high capital gains.

There are definitely funds out there with lower fees and likely less turnover that can roughly match the risk portfolio of that fund. But it really depends on the whole picture.
posted by muddgirl at 3:51 PM on September 22, 2023 [2 favorites]

I looked up the "hot hands" manager and he is retiring by the end of this year. It could be a lot of people are exiting for that reason.
posted by muddgirl at 4:03 PM on September 22, 2023 [3 favorites]

This can happen when a lot of investors sell the fund, which requires the fund to sell its holdings (and realize gains) to cash them out. It can happen even in low expense index funds (ask my 1040 how I know), so it may not be the active management that is causing the whole issue. Mudgirl’s point that the manager is changing seems like a good guess to me. Supposedly, ETFs are more immune to surprise capital gains distributions, by the way.
posted by Mid at 5:36 PM on September 22, 2023 [2 favorites]