It's a buyer's market in the world of mutual funds, and those that do not adapt die, or at least fail to attract investors, according to a research report assessing competition by the Investment Company Institute.
With more than 90 million Americans choosing mutual funds as their preferred investment vehicle, approximately 600 fund sponsors compete fiercely to provide customers good rates, useful services and unbridled access, while producing consistent results.
"These forces, along with the widely available information about funds that investors and their financial advisers use to compare funds provide a strong market discipline to organizations that sponsor funds," the report states.
Shareholders, of course, benefit, according to the report.
In the Darwinian world of financial services, 8,000 or so mutual funds compete not only among themselves, but with every other financial services product, including bank deposits, insurance products, hedge funds, real estate, separately managed accounts, stocks, bonds and exchange-traded funds. Add to that the amount of information readily available to consumers comparing funds, whether through independent ratings companies, such as Morningstar or Lipper, and regulation-mandated publications produced and circulated by funds themselves that strip the industry of the type of secrecy that shrouds other products.
These factors make mutual funds especially popular among American investors, with these products representing about 20% of household financial assets, according to the ICI.
And because investors have entrusted mutual funds with their nest eggs, they demand more. "Shareholder demand for performance is one of the most widely documented competitive forces," according to the report. Research shows that investors favor funds that have track records of at least 10 years, and tend to choose those that have demonstrated the most consistent performance. In fact, in 2005, 82% of all stock and bond assets invested were in mutual funds with decade-long records. In 2004 and 2003, 81% of all mutual fund investments were in long-tenured funds. For the past five years, that figure has not dipped below 77%. And even in the go-go 90s, when investors were drawn to technology and newer fund products, the majority of assets were invested in funds that were 10-years-old or more, according to the ICI data.
Furthermore, investors have dedicated approximately 75% of all their overall investments to mutual funds, according to the ICI.
Burton Greenwald, president of Philadelphia-based financial services consulting firm B.J. Greenwald Associates, said that the tendency of investors to look for funds with longstanding track records shows that investors have gotten savvy.
"Investors are more sophisticated, partly because in the aftermath of the run-up in the 90s and tech stocks, they have seen that short-term performance can be misleading," Greenwald said.
ICI research also shows that investors tend to rely on the largest fund sponsors. The top 10 sponsors controlled 53% of all mutual fund investments in 1990, and 48% of all money in mutual funds last year.
In order to capture or retain that market share, fund companies compete vigorously to lure investors through services and incentives. In 1995, for example, only 25% of funds offered services over the Internet. Now all do. In 2000, 70% provided investor statements over the Web. Today 100% offer them. In addition, more companies are opening walk-in offices for those investors who like to discuss their fund selections face-to-face, the ICI data shows.
When it comes to cost, consumers pay close attention. Since 1998, between 87% and 89% of all assets invested in stock funds were put into those funds with below-median expense ratios. For bond funds, that proportion was 69% in 1998, but has risen to between 73% and 75% since 2005. To capture new money, many smaller funds with higher expense ratios waive fees. In fact, 73% of small funds with less than $50 million in assets waive fees, the report shows.
Investors increasingly rely on experts for help choosing the best-performing and lowest-cost funds, with 80% of mutual fund investors using financial advisers, according to the report. "This is all to the good from the standpoint of the investor," Greenwald said.
However, Barbara Roper, the director of investment protection for the Consumer Federation of America in Washington, is not so sure brokers and advisers can provide unbiased recommendations, as long as fund sponsors often offer them incentives to sell their shares. "The mechanisms they've put in place for compensating a broker for the sale of funds has actually impeded competition," Roper said.
And while it's true that the mutual fund industry is more highly regulated and attracts more public scrutiny than some other financial service products, Roper dismisses suggestions that funds are inherently more secure or their managers more trustworthy.
Still, the ICI report suggests, poorly run funds disappear from the marketplace. "Over time," the report notes, "shareholders reward funds that are best able to deliver performance and service at a competitive level of fees."
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