In 2001, the fund industry reached a few important distribution milestones and embarked on new trends that are gaining momentum and are sure to be hot spots for distribution growth in 2002.
One of the most significant distribution trends the fund industry experienced this past year was a shift away from selling no-load funds directly to investors. A few high profile funds groups jumped into various financial intermediary channels, determined to enhance future distribution.
This trend actually began to pickup speed at the end of 2000, when then Scudder Kemper decided to abandon its efforts to sell its no-load Scudder Funds directly to investors. The group jumped on the intermediary-sold distribution bandwagon, adopted a load fund structure and branded all of its funds under the Zurich Scudder name. Deutsche Bank has since purchased the group.
Other fund groups were also quietly rethinking their distribution strategy.
This past May, the no-load Kinetics Funds of White Plains, N.Y., added A shares to three of its most popular funds to forge ties with brokers. It will do the same to another fund by year end.
In June, American Century Investments of Kansas City, Mo. added level loads to 23 of its funds, to accommodate fee-based financial intermediaries. The firm had been seeing some 80% to 90% of new dollars flowing in through the intermediary channel.
Credit Suisse Asset Management of New York also gave up on the no-load channel. It opted to add loads and sell its funds through financial intermediaries, dropping the Warburg Pincus name and adopting the Credit Suisse moniker across the board in the process. The change took effect on December 12 on 28 funds.
INVESCO Funds of Denver, a subsidiary of AMVESCAP of London, announced it too would alter its investment strategy and beat a path into the loaded sales channel. First-time investors purchasing INVESCO funds as of March 1, 2002, will choose among A, B and C shares.
"That certainly says a lot about the direct-to-investor marketplace," said Matt McGinness, an analyst with Cerulli Associates of Boston. "It's dead for anyone who can't offer ancillary services or advice." Not all no-load fund groups will choose to, or even be forced to, migrate to the intermediary-sold sales channels and add sales charges to compensate those consultants. But there will be room for only a few direct players, McGinness said.
Several fund groups with high hopes of distributing their mutual funds exclusively via the Internet brought funds to market in 1999 and 2000. But lacking the anticipated flood of assets, the attention of retail investors, and a rosy equity market, most underwent liquidation.
The group included StockJungle.com, Allied Owners Action Fund, X.com Funds, and MetaMarkets.com. "The main flaw with their thinking was that you could force a customer to do business solely in one channel," said Lee Kowarski, a consultant with kasina, a New York e-business consulting firm.
529s a Good Place to Grow in 2002
Distribution through 529 college savings plans picked up in 2001 and is expected to continue gaining momentum throughout the decade. Advisors have been competing with one another in an effort to win state 529 contracts, allowing them to manage, market and distribute funds.
According to a recent estimate by Cerulli, 529 plan assets are expected to grow to $51 billion by 2006. That growth will be fueled by a growing awareness of 529's benefits, tax changes which allow tax-free withdrawals beginning in 2002 and increased marketing of the plans. Cerulli estimates that 529 plans will close out 2001 with a $7.2 billion in assets under management.
Moreover, while states award one contract to 529 providers, sub-advisory and distribution partnerships between fund companies are creating room for additional players, said industry analysts.
For instance, Mercury Funds, a Merrill Lynch affiliate, was awarded Arkansas' contract. It will manage the state's plan while Franklin Templeton will distribute it. Under the Wisconsin 529 plan, Strong Capital Management will manage assets, while American Express assumes the role of distributor.
Multi-Managed, the New 529 Model
"Multi-manager platforms for 529 plans are emerging," said Luis Fleites, an analyst with Cerulli. That's great for some advisers who wanted to manage money but didn't want to deal with the administrative work involved.
North Carolina, for example, assembled a best-of-breed selection of advisors, including Evergreen Investments, Legg Mason, NCM Capital Management and J. & W. Seligman for its 529 plan that launched earlier this month. "We thought it [the multi-manager model] was in the best interest of investors," said Steve Brooks, executive director of the N.C. State Education Assistance Authority.
Positive tax changes and the introduction of 401(k)-like payroll deduction options will help fuel the growth of 529 plans, Fleites said. Like Fidelity, which recently announced its Workplace 529 Program complete with the payroll deduction option, Seligman will shortly begin offering a $25 minimum payroll deduction option on the portion of the N.C. plan it manages. "We have the highest of hopes. We expect to see significant assets flowing in," said Gary Terpening, VP at Seligman Advisors, the firm's distributor.
While the 529 college savings market is very attractive to investment firms, it has its limitations. Assets may flow considerably slower into 529 plans compared to 401(k) flows because investor awareness and acceptance of the plans is still relatively low, Fleites said. In addition, where 401(k) plans have a time horizon of between 30 and 40 years, college savings plans have a time horizon of about 16 years, cutting their accumulation period in half, said Fleites.
Sub-advised Assets Eyed in 2002
Asset growth through sub-advised funds is also seen as a distribution bright spot in the coming year. The sub-advisory model has gone mainstream and is now popular among retail managers, said John Benvenuto, an analyst with FRC. "It's essentially a distribution game. Suddenly, managing in another fund group's mutual fund product is an option," he said.
At the end of this year, roughly one in nine portfolios will be sub-advised, Benvenuto said, as firms are learning how to slice and dice different outside managers to create new product offerings.
But the sub-advisory picture may not be as perfect as it may seem. The industry may be reaching a sub-advisory saturation point in the future and firms that act as managers of managers are holding themselves out as being responsible for those sub-advisors and any compliance violations they commit, Benvenuto said.