MARKETS

Key TakeawaysMicrosoft is down 26% since its October 2025 peak, due to fears that AI will reduce demand for software. The Principal Blue Chip Fund has the largest weighting to the stock with a 15.6% allocation.All 10 of the largest holders of Microsoft are down over the past three months.Fears that artificial intelligence will undermine the software industry have sent shares of Microsoft MSFT sharply lower in recent months, and the funds with the biggest bets on the stock have been feeling the squeeze.The fund with the largest allocation to Microsoft is the $8.8 billion Principal Blue Chip Fund PGBHX, which has 15.6% of its assets in the stock. The fund with the second-largest position is the $6.9 billion Nomura Large Cap Growth Fund ILGRX, which has 13.9% of its portfolio in the stock.Shares of the $3 trillion company have followed the rest of the software industry down in the past few months. “It’s just fear, fear, fear. And there’s a lot of uncertainty, and there’s no way to prove that it’s not happening,” Morningstar senior analyst Dan Romanoff said in January.Which Funds Have the Biggest Allocations to Microsoft?A screen of US stock funds, excluding sector funds and those with fewer than $100 million in assets, shows which funds have made the biggest bets on Microsoft. This data reflects the most recently reported positions, and funds may have since reduced, eliminated, or added Microsoft. For instances in which more than one fund followed the same strategy, only the fund with the lowest expense ratio is listed.All 10 of the funds with the largest weightings to Microsoft fell into the large-cap growth category. The benchmark for the category, the Morningstar US Large-Mid Broad Growth Index, has a 5.0% weighting to Microsoft as of Jan. 31, 2026, while the 10 largest holders of the stock have weightings ranging from 12.4% to 15.6%. In addition, all 10 funds were actively managed. All 10 are also down over the past three months, compared with a 2.1% gain for the broader market, as represented by the Morningstar US Market Index.The fund most heavily invested in Microsoft is Principal Blue Chip Fund, which carries a Gold Morningstar Medalist Rating. Microsoft is the fund’s largest holding by 3.7 percentage points. Microsoft’s plunging price accounted for 4.0 percentage points of the fund’s 11.1% drop since the stock peaked on Oct. 28, 2025.“Satya Nadella and Amy Hood (CEO and CFO respectively) ensure Microsoft is focused on large and growing opportunities,” wrote the fund’s management in their December 2025 quarterly commentary. They wrote that while the stock had been among the top five detractors to the fund’s performance that quarter, Microsoft “has many opportunities ahead.” Morningstar associate director Tony Thomas wrote that “Nolin tends to tread carefully in tech stocks,” noting that it hasn’t invested in Apple AAPL and Tesla TSLA.Microsoft is the second-largest holding in the Neutral-rated Nomura Large Cap Growth fund, after Nvidia NVDA. The stock accounted for 3.7 points of the fund’s 11.3% loss since Microsoft peaked. The fund’s strategy focuses on firms with major competitive advantages, according to analysis by Morningstar principal Robby Greengold. Microsoft fits the bill according to Morningstar equity analysts, who give it a wide moat rating. The fund with the third-largest position in Microsoft is Silver-rated $10.1 billion MFS Massachusetts Investors Growth Stock Fund MIGNX, which has a 13.8% weighting to the stock, making it the largest holding. The stock accounted for 3.6 percentage points of the fund’s 5.2% loss since Microsoft peaked. The fund’s large position in Microsoft stands in contrast to its broader portfolio, which has been less concentrated than its chosen benchmark. “The 10 largest stocks in the index accounted for nearly 62% of the Russell 1000 Growth Index as of August 2025,” wrote Jack Shannon in his analysis of the fund in October 2025. “This strategy placed just 35% in those same 10 companies and owned only five of them.” While some investors appear to be worried about AI’s impact on Microsoft’s software business, the managers of the Neutral-rated $4.1 billion Alger Spectra Fund ASPYX see AI as a long-term positive. The fund has a 12.4% weighting to the stock. “Microsoft is infusing AI across all of their applications,” said portfolio manager Patrick Kelly said on a May 2024 episode of the Alger Podcast. “They are embedding AI across their entire product line, and this is not only leading to an acceleration in their topline growth, but also significantly enhancing their competitive position and their competitive moat.”

The typical large-blend fund in Morningstar’s database posted an annualized return of 17.57% over the three-year period ended January 2026. Meanwhile, the median tax-cost ratio of that same group of funds was 1.28%.That means that an investor in the highest tax bracket who owned an average-performing large-blend fund and held it for a decade in a taxable account would have ceded about 7% of her returns to taxes. And that assumes the investor didn’t sell at the end of the period but simply bought and held; the 1.28% per year tax-cost ratio was simply her carrying cost for the fund and doesn’t factor in any taxes due upon the sale.It’s usually not a good idea to hold taxable-bond funds in a taxable account, particularly for people in higher tax brackets, and that’s especially true now that yields have gone up to more meaningful levels. That’s because the majority of the return that bonds earn consists of income rather than capital gains, and income is taxed at the ordinary income tax rate versus the lower long-term capital gains rate. The typical intermediate-term core bond fund returned 4.83% over the past three years and had a tax-cost ratio of 1.44%. For investors in the highest tax bracket who bought and held a taxable-bond fund in a taxable account (again, usually not advisable), their tax burden would have gobbled up about a third of the return of the fund.Some investors might assume that paying taxes is simply the cost of earning good returns. And it’s certainly true that good asset location can help reduce the drag of taxes. For example, by holding taxable bonds in their tax-sheltered accounts, investors will be on the hook for taxes only when they pull money out, not for any income their bonds or bond funds kick off during their holding periods. (Investors in Roth IRAs won’t owe any taxes at all upon withdrawal in retirement, provided they’ve minded their p’s and q’s.)Investors can also help reduce their tax bills by maintaining a tight focus on tax-efficient funds for their taxable accounts. Individual stocks can be a good fit as taxable holdings: The investor will be subject to tax on any dividends the stocks pay out but won’t have to contend with the kinds of capital gains distributions that have bedeviled many investors in actively managed stock funds.Mutual funds and exchange-traded funds can be quite tax-efficient, too; the key is to choose carefully. For equity investors, traditional index funds and ETFs tend to do a good job of limiting taxable capital gains; tax-managed mutual funds can also be a good choice. On the fixed-income side, municipal-bond funds can be a good fit for the taxable accounts of investors in higher tax brackets, though aftertax muni yields may be less attractive at various points in time, especially when muni demand is strong.Here’s a rundown of some of our analysts’ favorite tax-efficient funds and ETFs for core equity and bond exposure. Note that this is not an inclusive list; I focused on funds with Gold, Silver, or Bronze Morningstar Medalist Ratings with structural features that should contribute to decent tax efficiency over time.Top Tax-Efficient ETFs for US Equity ExposureiShares Core S&P 500 ETF IVViShares Core S&P Total U.S. Stock Market ETF ITOTSchwab US Broad Market ETF SCHBVanguard S&P 500 ETF VOOVanguard Total Stock Market ETF VTIEquity ETFs have taken off in popularity in recent years, in part because of their ability to limit taxable capital gains. Not all ETFs have the same tax efficiency, but broadly diversified core equity ETFs manage to reduce capital gains distributions, thanks to their very low turnover as well as the ETF structure.Investors could also hold separate small-, mid-, and large-cap ETFs; iShares, Schwab, and Vanguard all field cheap and excellent versions. However, the main reason for holding discrete building blocks for each market-cap band is to rebalance among them, but doing so will tend to trigger more frequent selling—and in turn capital gains realization—than is ideal.Top Tax-Efficient Index Mutual Funds for US Equity ExposureVanguard Total Stock Market Index VTSAXVanguard 500 Index VFIAXDFA US Core Equity 1 DFEOXFidelity Total Market Index FSKAXSchwab S&P 500 Index SWPPXTraditional index funds benefit from the chief factor that is responsible for ETFs’ tax efficiency: very low turnover. Thus, most of Morningstar’s favorite core index funds are fine tax-efficient picks, especially Vanguard Total Stock Market Index and Vanguard 500 Index. From a tax efficiency perspective, these funds benefit from the fact that they’re share classes of the firm’s ETFs. Gold-rated DFA US Core Equity 1 also has fine long-term tax efficiency numbers, as do core index-trackers from Fidelity and Schwab.Top Tax-Managed Funds for US Equity ExposureVanguard Tax-Managed Capital Appreciation VTCLXVanguard Tax-Managed Small Cap VTMSXVanguard Tax-Managed Balanced VTMFXAlthough they’ve been eclipsed by “popular kid” ETFs in recent years, the small subset of tax-managed funds has historically done a terrific job of limiting taxable capital gains. Vanguard’s suite of tax-managed funds is a standout in this small group. Its funds closely track indexes and benefit from low turnover; they also layer on additional tax-management techniques such as tax-loss harvesting and downplaying dividend-payers. Their expense ratios are ultralow, and their tax-cost ratios are on par with or even lower than comparable ETFs. I used Vanguard Tax-Managed Capital Appreciation and Vanguard Tax-Managed Small Cap in my core model tax-efficient Bucket portfolios for retired investors.Top Tax-Efficient ETFs for Non-US Equity ExposureVanguard FTSE All-World ex-US ETF VEUVanguard Total International Stock ETF VXUSSchwab International Equity ETF SCHFiShares Core MSCI Total International Stock ETF IXUSForeign-stock ETFs have all the structural tax-efficiency benefits that US stock ETFs do, but their tax-cost ratios tend to be a bit higher for one key reason: Foreign companies often pay higher dividends than US companies, and those year-in, year-out payments lead to higher tax bills. For example, iShares Core MSCI Total International Stock ETF has a 12-month dividend yield of 3.05%, versus 1.09% for iShares Core S&P Total US Stock Market ETF. Accordingly, foreign-stock ETFs’ tax-cost ratios are higher than those of US ETFs. Even so, broad foreign-stock ETFs are appreciably more tax-efficient than actively managed international funds.Top Tax-Efficient Mutual Funds for Non-US Equity ExposureFidelity Global ex US Index FSGGXFidelity International Index FSPSXVanguard Total International Stock Index VTIAXVanguard FTSE All-World ex-US Index VFWAXMany of the same caveats that apply to foreign-stock ETFs also apply to foreign-stock index funds. They generally enjoy low tax-cost ratios relative to actively managed products but usually have worse tax-cost ratios than US index funds and ETFs because of higher dividends on foreign stocks. Among Morningstar’s favorite core international-equity index funds are those from Vanguard and Fidelity.Top Tax-Efficient Mutual Funds for Bond ExposureFidelity Municipal Income FHIGXFidelity Tax-Free Bond FTABXVanguard Intermediate-Term Tax-Exempt VWIUXVanguard Limited-Term Tax-Exempt VMLUXFor investors in higher tax brackets who want to hold bonds in their taxable accounts, a municipal-bond fund can be a good fit. (At the same time, it’s worth noting that aftertax yields on munis won’t always be higher than those of taxable bonds with similar risk attributes.) Fidelity’s muni funds have long been among Morningstar’s favorites, as have Vanguard’s.