KATHY BUTTERLY

Ten years later, the California legal secretary knows exactly how they could have gone wrong. At the local AmEx rep's urging, the Butterlys invested all their 401(k) proceeds in the house brand of mutual funds, now known as AXP funds. Among them were such stinkers as AXP Mutual, a so-called stock fund that held hefty stakes in cash instead of equities, and AXP Diversified Equity-Income, whose bank-stock-heavy portfolio was anything but diversified. More recently, the Butterlys were steered into investing another $5,700 in AXP Progressive, a midcap fund that has lost 24%, while the Russell 1000 has gained 31%. "In one of the greatest bull markets, 97% of that fund is invested in stocks, and they've had a loss," says an exasperated Kathy, who is transferring money into no-load funds in a Charles Schwab account. "Now isn't that disgusting?"

Some might call it that. We call it dysfunctional.

After a brutal period in which it couldn't seem to do anything right, let alone beat the Standard & Poor's 500, the mutual fund industry is once again living up to its billing. Most money pros are beating the S&P 500, after a five-year period when only a quarter of all U.S. diversified funds (280 out of 1,038) reached that goal. Yet many fund families still can't seem to get out of their own way. They charge fees that border on lunacy. They're slow to accommodate changing economic conditions. They have high manager turnover. Worst of all, they don't make their investors anywhere near as much money as they should.

Fund Rankings

The Industry's Top 10 and Bottom 10

A complete ranking of the 101 largest fund companies.

The families profiled on the following pages are the bottom of the barrel, the 10 poorest-performing fund groups around. Two of the families that wound up on our list in March 1997, the last time we conducted this survey, have that ignoble distinction again: PaineWebber and First Investors. American Express, with $93 billion in assets, may be this year's biggest, but our list of Dysfunctional Families is full of companies readers will recognize, including Pioneer and Seligman, both of which manage more than $20 billion.

To put together our list, we asked Morningstar, the Chicago-based investment research firm, to weed out all the fund companies with less than $3 billion in managed assets and with fewer than five funds with a five-year track record. We then looked at each fund's performance relative to its Morningstar category for the past five years. We opted to go with load-adjusted returns because what counts is the money that ends up in an investor's pocket. We tossed out money-market funds, as they're designed for saving money rather than building wealth, and most single-state municipal bond funds, since their peer groups are so small. Next, we assigned each portfolio a score from 10 (best) to 1 (worst), depending on its relative five-year performance record. Finally, Morningstar calculated the average ranking for each company's funds.

Are there any funds worth considering in these families? A few. SmartMoney, in fact, recommended Delaware Select Growth in March 1999 and again this past April. But these are the rare exceptions. For the vast majority of investors, the best advice we can give regarding these fund families is simple: Don't go there.

AAL CAPITAL MANAGEMENT
AAL, a for-profit unit of the nonprofit Aid Association for Lutherans, has an interesting formula: Market a handful of mutual funds. Charge a 4% load. Watch while these funds set sales records for 1999, despite their lackluster or worse performance. Then introduce five new funds to the flock in 2000.

Not exactly a divine strategy, but so far, it seems to be working. This month, AAL is trotting out two new managed funds and three new index funds, as part of its plan to "fill every slot," according to James Abitz, chief investment officer of the Appleton, Wis., money-management firm. Too bad AAL isn't doing very well covering the ones it's already filled. Thanks to poor stock picking in the health care arena and too many utility stocks, AAL Mid Cap Stock trails the average midcap growth fund by more than eight percentage points. The AAL Bond fund has also been a poor performer, with a less-than-angelic 4.5% annual average since 1995.

One more thing: Don't bother with AAL if you're looking for a socially responsible investment mandate. "We don't want to tie the hands of our portfolio managers," says Abitz. Despite this bold pronouncement, the company's overall standing has actually dropped since our March 1997 survey.

AMSOUTH
When all else fails, blame your investing style. That's what AmSouth does. Just one of the family's six portfolios a bond fund beat its peer group, while three of the remaining five failed to get out of the bottom third of their class. Why? "We still are value-oriented, and if you look at the performance, that's been the wrong place to be," says Senior Vice President Pete Verdu.

Hmm. So why are AmSouth's value rivals doing so much better? "I think what you've seen is style migration," Verdu says, referring to value managers who inflate their returns by buying growth stocks. In fact, AmSouth's average price/earnings ratio is below that of its peers because the value funds' investment mandate is to buy stocks with P/Es below the S&P's. Could it be that this enforced deep-value decree fails to turn up many good stocks? Just checking.

Interestingly, over the past 12 months, the one AmSouth fund that does buy growth stocks the Large Cap fund has beaten only 18% of its peers, while the family's worst performer, AmSouth Balanced, has lost 1.9%. That puts it behind eight out of every 10 rivals, a showing that parallels its long-term record. Verdu, the fund's manager, says it stumbled because his computer models were flashing "caution signs and blinking red lights" about stocks 18 months ago, causing him to put most of the portfolio's assets in bonds. Talk about a blinking red light.

PIONEER
What can you say about a fund family that has replaced eight of its 16 managers in the last three years? That's just what Pioneer did. But have the changes made much of a difference? Apparently not. Over the past five years, more than half of its funds have been trounced by the competition. In the past 12 months, eight of the 16 funds we reviewed didn't come near their peer-group average.

Chief Investment Officer Theresa Hamacher likes to point out that the managers' expertise lies in evaluating small and midsize companies. Yet the Pioneer Mid Cap fund, which concentrates on growth stocks, has been in the basement of its peer group over the past five years. Pioneer Growth Shares, which invests in midsize and large companies, has even worse numbers: Only two of its 311 rivals did worse. Top holdings such as AT&T, down 9% this year, and William Wrigley, the chewing gum company, down 12%, haven't helped. Nor has its underweighting in technology.

Hamacher's excuse? The Morningstar fund categories fail to correctly measure the funds' former investing mandate, which had allowed managers to buy stocks of any size. Pioneer bought by UniCredito Italiano Group in May for the value price of $1.2 billion has since reversed course and "repositioned the funds," restricting managers by capitalization size as well as investing style.

FIRST INVESTORS
First Investors has some of the highest numbers in the industry. No, not performance numbers. Loads. Its lofty 6.25% sales charge spells trouble for its adjusted returns. Case in point: The First Investors Blue Chip fund surpassed most large-cap blend funds, but when adjusted, the fund's record falls below the middle of the pack. First Investors collects the same crippling commission for its muni- and corporate-bond funds, categories in which a tenth of a percentage point difference in performance can knock a fund to the bottom of its group. That's what happened to its Investment Grade fund, which managed to beat 37% of its rivals until we adjusted for load. Then it surpassed only one in 10.

"We always get stuck with the 6.25% sales charge in comparisons," says Robert Flanagan, a senior vice president in charge of sales and marketing. "That is high in the scheme of things, but we think the service the rep delivers is high." It had better be. After we allowed for load, not a single one of the 14 First Investors funds we looked at landed in the top third of their peer group over the past five years and only two surpassed their category average. Much of the problem can be traced to Director of Equities Patricia Poitra and her two funds Special Situations and Mid-Cap Opportunity. Not since 1993 has the former beaten its average rival in a calendar year, while the Mid-Cap fund has fallen about five percentage points short of the average each of the past five years. "There were some periods when the stock selection just wasn't all that good," Flanagan concedes.

AMERICAN EXPRESS
How have American Express funds failed? Let us count the ways. Large cash positions in a raging bull market. Overexposure to the volatile Japanese yen. A big stake in weak-performing mortgage-backed debt. And a minuscule stake in hot domestic stocks. An astounding 21 out of 26 of the firm's funds eligible for our survey lagged their average peers during our five-year period.

How bad does it get? AXP NY Tax-Exempt and AXP CA Tax-Exempt, two municipal bond funds, have gained a scant annualized 3.3% and 3.6%, respectively, ranking among the worst in their peer groups. AXP Progressive and AXP Discovery, meanwhile, gained less than 11% and continue to languish near the bottom of their peer groups.

The good news: AmEx has dramatically overhauled its investment process, hiring eight seasoned sell-side veterans some with more than 10 years of experience, including Steven Schroll, a former Wall Street Journal All-Star Analyst.

The bad news: The company is raising its front-end loads from 5% to 5.75% on fund investments below $50,000, in accordance with "the industry standard," a spokesman says.

DELAWARE
Here's one pretty clear sign of the priorities at Delaware Investments: Until recently, performance wasn't a key factor when its fund managers' bonuses were calculated. Delaware's retail funds were pretty much an afterthought, extensions of institutional products designed to meet the needs of foundations, pension funds and insurance companies, which typically are more interested in preserving wealth than amassing it.

Perhaps that explains the funds' dismal performance: Nine out of 22 of them are in the bottom decile of their class. In the past, Delaware which is owned by the Lincoln Financial Group restricted its value managers to underpriced stocks that delivered the highest dividend yields. Not exactly a hot area of the market during the past five years, or the past 10 years, for that matter.

"We're going to try to change the investment process," says new CEO Ed Haldeman, who was brought on board in January, after seven skipperless months. Haldeman plans to build a separate money-management team to oversee the retail funds, and says he wants to build up the analyst team. He can't do it soon enough. "I won't be here if we're still included in your article in 2003," he predicts.

PRINCIPAL
What do you call a fund family whose so-called growth funds were discouraged, until recently, from buying tech stocks? Behind the times? Ridiculous? Laughable?

Principal is all that and more. Trapped in a value-oriented approach, its managers often bought underpriced stocks that had lower P/Es and higher dividends than the S&P 500 index's average. Clotted with Old Economy names such as Ralston Purina and Marriott International, even in their growth funds, the managers seemed like a cult of Luddites. "We gave tech companies very little credit for being real businesses in some cases," says Chief Investment Officer Scott Opsal, who, by the way, accuses competitors of drifting from their stated investment mandates.

The investment strategy was murder on returns. Only three of its 11 portfolios with a five-year record beat their category average. Principal Growth and Midcap lagged in part because Michael Hamilton, the funds' former manager, bought underpriced bargains rather than sticking to growth stocks. Both funds failed to beat their benchmark over the past five years.

Earlier this year, Principal finally revised its investment guidelines. Managers can now buy companies with no dividends and companies trading at multiples higher than the overall market's so long as they are less expensive than their respective industry average. "Our restrictions were too tight," Opsal admits.

SELIGMAN
Once upon a time, Seligman investors were sitting pretty. Lately, they've been doubled over in agony. Only one of this fallen family's six domestic stock funds is beating its category average over the past five years. None of its four international funds are. "We deserve a kick in the butt," says Director of Investments Richard Schmaltz. "And it starts right in this corner office my office."

No argument there. The Seligman Income fund used to be one of the top balanced funds. Now it's a wreck. Not only has the portfolio fallen 3.4% in the past 12 months, it also did worse than all but 45 of 360 peers. Seligman Frontier, which focuses on small, rapidly growing companies, finished last year 53 percentage points behind its peer group average. In March, Seligman replaced the manager of the Frontier fund. To beef up the investment team, it hired 10 more analysts to help pick technology stocks. "We haven't figured out a total strategy yet," Schmaltz concedes. "We deserve to be criticized because we're not there yet."

PAINEWEBBER
Welcome back, old friend. This is the third time in a row PaineWebber's fund group has landed on our Dysfunctional Families list. Is it going to do anything about it? Hard to say. Mitchell Hutchins Asset Management, the PaineWebber unit that runs the funds, refused to allow us to speak with any of its executives, but did send us the following statement: "Mitchell Hutchins strives to deliver consistent fund performance with the least amount of risk." The funds' performance has been consistent consistently bad. Only two of the 20 PaineWebber funds we looked at beat their average peer over the past five years.

Take PaineWebber High-Income (please): It gained 3.3% a year over the past five years only one of its 66 rivals did worse. One year this yo-yo fund is at the front of its group; the next it's nearly dead last. Not exactly what one expects from a bond investment, even a junk-bond bet. PaineWebber finally made a manager change in February, but it hasn't done much good. So far this year, it's been the worst-performing junk-bond fund, having dropped 15%.

Thank you, PaineWebber? Uh, no thanks.

IVY
Though their long-term record was ugly enough to warrant inclusion on this list three years ago, we spared the Ivy funds because their strong performance in 1996 pointed to a turnaround. Big mistake. By 1998, the funds had belly-flopped. By our measure, it's now the worst of all the fund groups.

Let's start with its flagship Ivy International fund: This $2 billion behemoth continues to flounder near the bottom quarter of its peer group. Ivy management blames the fund's focus on value stocks (sound familiar?). But poor country allocation was also a problem. The fund remained loaded with weaker British and Swiss stocks. Ivy hasn't fared much better at home. Of the three U.S. stock funds we looked at, two are among their categories' worst.

The family has been scrambling to get back on track. Michael Landry, who ran the company for 12 years, left last summer. His wife, Barbara Trebbi, who headed up the firm's international-stock team, followed him in March. The new chief executive, Keith Carlson, replaced her with Moira McLachlan, who's been on the international-equity team for five years. Will all this make a difference? Who knows? For now, though, this Ivy is strictly poison.

Lousy With Cash The Fund Industry's Top and Bottom Performers, Ranked From 10 (Best) to 1 (Worst)
The 10 BEST Fund Families					The 10 WORST Fund Families
COMPANY NAME	5-YR RATING*	1-YR RATING**	ASSETS (BILLIONS)		COMPANY NAME	5-YR RATING*	1-YR RATING**	ASSETS (BILLIONS)
Janus	9.61	7.71	$227.8		AAL	4.00	4.27	7.3
Harbor	8.57	6.25	18.1		AmSouth	4.00	4.87	4.0
Standish Ayer & Wood	8.11	6.50	5.6		Pioneer	3.94	6.15	21.2
Loomis Sayles	8.00	7.27	3.3		First Investors	3.87	6.63	4.2
Nuveen	8.00	5.87	6.7		American Express	3.77	4.93	93.3
Vanguard	7.95	5.93	509.6		Principal	3.73	4.75	3.6
PIMCO	7.89	6.44	60.2		Delaware	3.70	3.32	13.9
Safeco	7.83	4.56	3.8		Seligman	3.67	3.89	22.8
Alger	7.67	5.00	6.0		PaineWebber	3.45	4.65	12.1
Columbia	7.67	7.30	7.2		Ivy	2.44	3.88	43.3
* From 5/1/95 to 4/28/00. ** From 5/3/99 to 4/28/00.					Source: Morningstar
For a complete ranking of the 101 largest fund companies, click here.