Reprinted by permission of Morningstar, September 13, 2016

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Kinnel's Fantastic 45 Funds Out of a universe of nearly 8,000 mutual funds, only these 45 passed Russ Kinnel’s strict screen for fantastic funds.

Fund Spy | 9-13-16 | by Russel Kinnel

This article first appeared in the July 2016 issue of FundInvestor. I have updated the data, and that resulted in three funds from the July list being removed for this version. Download a complimentary copy of FundInvestor by visiting the website.

It’s time once more for my annual screen for fantastic funds. The idea is to be very picky and very quantitative. I set up a list of key tests that I have for a fund and then see how many pass. This year, only 45 funds out of a universe of nearly 8,000 passed my tests. The rules are strict. I don’t let funds slide in just because they pass most of the tests. They have to pass all the tests. Here are the screens:

Cheapest quintile of category. Morningstar studies show that funds in the cheapest quintile of their Morningstar Category are a much better bet than the rest of the investment world, so this is the first test.

Manager investment of more than $1 million in the fund. We found that funds where at least one manager has invested more than $1 million of his own money are more likely to outperform than those without such alignment of interest.

Morningstar Risk rating below the High level. Our Morningstar Investor Return studies have found that highly volatile funds are much harder for investors to hold, and investor returns tend to trail total returns.

Morningstar Analyst Rating of Bronze or higher. This fundamental, forward-looking rating factors in qualitative and quantitative measures.

Parent rating of Positive. You want a good steward with a strong investment culture when you invest for the long haul.

Returns above the fund’s benchmark. The best time period for looking at a fund is the manager’s tenure rather than a standardized time period. So, I start with the earliest start date of the managers on a team and insist that the fund beat the benchmark over that time period. I used returns through August 2016. There is a minimum five-year manager tenure, too, to weed out those with less meaningful track records.

One new wrinkle this year is that if I thought a fund’s prospectus benchmark was a bad fit or if we didn’t have the benchmark’s track record far enough back, I opted for the category benchmark. This was mainly done to address the fact that many balanced funds have one equity benchmark and one bond benchmark rather than a blend of the two. That means they have either a very high or very low bar depending on which was the primary benchmark. Our category benchmarks are blended mixes of stocks and bonds, which make them a better fit.

Finally, I throw out institutional share classes to help you get a list you can use. (There are three funds with “institutional” in their names but minimum investments of $25,000 or less, which I don’t consider institutional.)

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© 2016 Morningstar, Inc. All rights reserved. The Morningstar name is a registered trademark of Morningstar, Inc.

I didn’t exclude closed funds because many people still own them and would welcome confirmation that they are on the right track.

We have eight newly fantastic funds that were not on the list last year and I will highlight here.

Newly Fantastic

American Funds Capital Income Builder (CAIBX) This fund is back on the list after spending a year on the outside. Its expense ratio had bounced up to 0.62%, but now it is down to 0.59%, which gets it into the cheapest quintile and back into the Fantastic 45. The Silver-rated fund is in American’s sweet spot as the team is adept at generating income without taking on too much risk. The fund has about 80% of assets in dividend-paying stocks and the rest in bonds and cash. Assets are rather evenly split between the U.S. and overseas markets. Seven of the fund’s managers have committed more than $1 million of their own money to the fund.

American Funds Global Balanced (GBLAX) This fund makes the Fantastic 45 in its first year of eligibility. Launched in February 2011, the fund targets a 60/40 split of global stocks and global bonds. It is run by three balanced managers, one equity specialist, and two bond specialists. The balanced managers have latitude to adjust their bond/stock mix. So far, it has gone nicely as the fund has handily beaten peers and modestly beaten the MSCI All-Country World Index. It is already up to $11 billion under management.

Baird Short-Term Bond (BSBIX) This fund has a $25,000 minimum for institutional shares, but I think it is worth including despite the fact that it calls itself institutional. Baird’s M.O. is to have straightforward well-run funds that avoid big risks. While other bond

managers are throwing in all manners of exotic exposures, this fund is plain-vanilla. If you want to avoid both credit and interest-rate risk, this is a good choice.

Diamond Hill Long-Short (DIAMX) This fund is closed, so it can only go on your watchlist, not your buy list. The fund builds on the firm’s strengths in constructing great long equity portfolios and adds a short portfolio that is essentially the least attractive stocks as measured by its bottom-up value process. We rate Diamond Hill’s long portfolios Gold and this fund Bronze because the short side has not yet impressed us as much as the long side.

Fidelity Balanced (FBALX) My secondary test of beating a category benchmark helped this fund get in. The Silver-rated fund has a 7.5% annualized return compared with 7.1% for the Morningstar Moderate Target Risk Index since October 2008 when the fund adopted a sector-specialist format headed by Bob Stansky. The fund keeps sector weightings in line with the S&P 500’s so that the fund has predictable exposure and stock selection can shine through. That part has been decent but not great. It’s the fixed-income side run by Ford O’Neil and Fred Hoff that we really like.

Fidelity Puritan (FPURX) Fidelity Puritan also beat the Morningstar Moderate Target Risk benchmark, though its record goes back to September 2003 when Harley Lank started as manager of the fund’s high-yield sleeve. But more importantly, it has beaten the index and peers since lead manager Ramin Arani came on board in February 2007. Arani picks growth stocks for the stock-heavy fund, and he sets the fund’s allocation between stocks, high-quality bonds, and high-yield bonds. He’s made winning calls with stock selection and asset allocation.

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Mairs & Power Balanced (MAPOX) This fund is back on the list after a one-year absence. The fund’s expense ratio is right at the 20th percentile of its peer group, so it may forever be on the cusp of the Fantastic 45. Its returns, however, are well ahead of the category and prospectus benchmark since lead manager Ron Kaliebe was named comanager in January 2006. The strategy mixes stable-growing, dividend-paying equities with investment-grade bonds. It’s really an old-school balanced fund that can provide a pretty steady ride throughout a variety of markets.

T. Rowe Price Capital Appreciation (PRWCX) This fund is closed, too, but I know that many people got in before it closed. David Giroux has done a remarkable job of stock selection and asset allocation. He uses a blue-chip growth-at-a-reasonable-price strategy for equities and then uses a little bit of everything for fixed income. The bond side includes high-yield, investment-grade, bank loans, Treasuries, and convertibles in an attempt to generate returns without taking on extreme risk. And, wow, the fund’s 8.8% annualized gain has beaten the Morningstar Moderate Target Risk Index’s 6.0% since July 2006 and even the S&P 500’s 7.7% return.

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Russel Kinnel is director of manager research for Morningstar and editor of Morningstar® FundInvestorSM, a monthly newsletter.

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Reprinted by permission of Morningstar, September 13, 2016

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Glossary

Reprinted by permission of Morningstar, Inc. ©2016 Morningstar, Inc. All Rights Reserved. The information contained herein: (1) is proprietary to Morningstar and/or its content providers; (2) may not be copied or distributed; (3) does not constitute investment advice offered by Morningstar; and (4) is not warranted to be accurate, complete or timely. Neither Morningstar nor its content providers are responsible for any damages or losses arising from any use of this information. Past performance is no guarantee of future results.

Morningstar Analyst RatingTM for Funds The Morningstar Analyst Rating is not a credit or risk rating. It is a subjective evaluation performed by the manager research analysts of Morningstar. Morningstar evaluates funds based on five key pillars, which are process, performance, people, parent, and price. Analysts use this five pillar evaluation to determine how they believe funds are likely to perform over the long term on a risk-adjusted basis. They consider quantitative and qualitative factors in their research, and the weighting of each pillar may vary. The Analyst Rating scale is Gold, Silver, Bronze, Neutral, Negative. A Morningstar Analyst Rating of Gold, Silver, or Bronze reflects an Analyst’s conviction in a fund’s prospects for outperformance. Analyst Ratings are continuously monitored and reevaluated at least every 14 months. For more detailed information about Morningstar’s Analyst Rating, including its methodology, please go to: http://corporate.morningstar.com/us/ documents/MethodologyDocuments/AnalystRating-forFundsMethodology.pdf.

The Morningstar Analyst Rating should not be used as the sole basis in evaluating a mutual fund.

Morningstar Analyst Ratings involve unknown risks and uncertainties which may cause Morningstar’s expectations not to occur or to differ significantly from what we expected.

Morningstar Fund Spy In this analysis, Morningstar evaluates funds based on a set of criteria established by Russel Kinnel, director of fund research and editor. As listed on p. 1 of the article, the criteria applied are as follows: (1) A fund must have outperformed its prospectus benchmark over the tenure of the longest tenured manager. A minimum of five years is required. The test was run using returns through August 2016; (2) expenses must be in the cheapest quintile of the category; (3) Parent Grade must be positive; (4) manager investment in the fund must be more than $1,000,000; (5) a fund must be a “medalist”—i.e., it must be rated Bronze, Silver or Gold—in order to be considered and; (6) The Morningstar Risk rating must be below the High level. Using these six criteria, the tool filtered 45 out of nearly 8,000 funds, excluding true institutional funds, for all share classes in the Morningstar database, as of August 2016; 11 of the 45 funds were American Funds.

Morningstar Manager Return A fund’s annualized return from the start date (the first day of the month shown) of the longest tenured manager.

Morningstar Parent Rating An assessment of the parent organization. Key (operational) areas of evaluating a parent organization include: recruitment and retention of talent, organizational structure, capacity management, organizational and business strategy, alignment of interests with fund investors and regulatory compliance. For fund firms receiving Stewardship Grades, the Stewardship Grade will determine the Parent rating for all funds in the family. Funds from firms earning A and B Stewardship Grades will have Parent ratings of Positive; those earning C Stewardship Grades will have a Neutral Parent rating; and funds from firms earning D and F Stewardship Grades will have Negative Parent ratings. For funds not under Stewardship Grade coverage, their Parent ratings of Positive, Neutral or Negative will be based on an analysis of the fund firm that is consistent with the Stewardship Grade methodology.

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Reprinted by permission of Morningstar, September 13, 2016

© 2016 Morningstar, Inc. All rights reserved. The Morningstar name is a registered trademark of Morningstar, Inc.

Morningstar Risk An assessment of the variations in a fund’s monthly returns, with an emphasis on downward variation. It is calculated as the difference between Morningstar Return (adjusted for loads and excess over the risk-free rate) and Morningstar Risk-Adjusted Return (adjusted for loads, excess over the risk-free rate and risk). Morningstar Risk is similar to (and correlated with) standard deviation; the key difference is that standard deviation gives the same weight to upside and downside variation. Morningstar Risk is measured for up to three periods (three, five and 10 years). For each period, all funds in a category are ranked by Morningstar Risk. The top 10% are given a risk score of 5, or “High”; the next 22.5% are scored 4, or “Above Average”; the next 35% are scored 3, or “Average”; the next 22.5% are scored 2, or “Below Average”; the bottom 10% are scored 1, or “Low.”

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Results as of September 30, 2016Fund Inception Date Average Annual Total Returns Expense RatioGrowth Funds 1 Year 5 Years 10 Years LifetimeAMCAP Fund® 5/1/67 6.56% 14.74% 7.34% 11.26% 0.67%EuroPacific Growth Fund® 4/16/84 1.91 7.45 3.31 10.49 0.83The Growth Fund of America® 12/1/73 8.42 15.19 6.80 13.29 0.65New Perspective Fund® 3/13/73 4.54 11.61 6.17 11.96 0.75New World Fund® 6/17/99 6.76 5.02 4.29 7.16 1.04Growth-and-Income FundsCapital World Growth and Income Fund® 3/26/93 4.62 10.21 4.71 10.12 0.77The Investment Company of America® 1/1/34 10.94 14.38 5.98 12.02 0.58Washington Mutual Investors FundSM 7/31/52 8.59 13.23 5.94 11.66 0.58Equity-Income FundCapital Income Builder® 7/30/87 4.68 7.64 4.34 9.09 0.59Balanced FundsAmerican Balanced Fund® 7/26/75 5.64 10.80 6.18 10.51 0.58American Funds Global Balanced FundSM 2/1/11 4.06 7.40 — 5.14 0.85

Investment results assume all distributions are reinvested and reflect applicable fees and expenses. Expense ratios are as of each fund’s prospectus available at the time of publication. When applicable, investment results reflect fee waivers and/or expense reimbursements, without which results would have been lower. Please see americanfunds.com for more information.

Investing outside the United States involves risks such as currency fluctuations, periods of illiquidity and price volatility, as more fully described in the prospectus. These risks may be heightened in connection with investments in developing countries. The return of principal for bond funds and for funds with significant underlying bond holdings is not guaranteed. Fund shares are subject to the same interest rate, inflation and credit risks associated with the underlying bond holdings. Lower rated bonds are subject to greater fluctuations in value and risk of loss of income and princi-pal than higher rated bonds.

If used after December 31, 2016, this article must be accompanied by a current American Funds quarterly statistical update.

Investors should carefully consider investment objectives, risks, charges and expenses. This and other important information is contained in the fund prospectuses and summary prospectuses, which can be obtained from a financial professional and should be read carefully before investing.

Figures shown are past results for Class A shares and are not predictive of results in future periods. Current and future results may be lower or higher than those shown. Share prices and returns will vary, so investors may lose money. Investing for short periods makes losses more likely. Fund results are for Class A shares and reflect deduction of the 5.75% maximum sales charge. For current information and month-end results, visit americanfunds.com.

Investments are not FDIC-insured, nor are they deposits of or guaranteed by a bank or any other entity, so they may lose value.