How to Tell if Your Fund Is Straying Off Course

Nowadays, cars often alert the driver when they drift into another lane—and maybe even self-correct. Unfortunately, your mutual funds don't do the same.

Examples of style drift, in which a fund meaningfully departs from its stated objectives, are everywhere: value funds investing in high-growth technology stocks, small-cap funds with significant mid- and large-cap exposures, developed-market funds straying into emerging-market territory—the list goes on.

"It's not surprising for a fund to stray from its mandate for a quarter or two as its managers pursue tactical opportunities or attempt to reduce risk," says Michael Iachini, CFA^®, CFP^®, managing director and head of manager research at the Schwab Center for Financial Research. "When such changes constitute a conscious shift in strategy, on the other hand, it can be cause for concern."

The U.S. Securities and Exchange Commission's Names Rule, which mandates that a fund invest at least 80% of its assets in investments its name suggests, is supposed to act as a safeguard against significant drift. Even so, fund managers have some degree of flexibility, and many funds choose imprecise names that allow them to invest more broadly. "At its most extreme, style drift can leave you over- or underexposed to key elements of your target asset allocation and potentially expose you to undue risk," Michael says.

Fortunately, there are steps you can follow to help determine whether your fund is changing lanes.