Aiming to compete with increasingly popular alternative investments and to increase performance in a weak market, many mutual fund managers have adopted strategies previously associated with hedge funds, according to The Wall Street Journal. .
German Allianz Global Investors, Swiss Julius Baer Holding, and AllianceBernstein, based in New York, have each sought shareholders' permission to alter their mutual fund investment styles.
Other companies, such as Oppenheimer Funds, in New York, and Principal Global Investors, based in Des Moines, Iowa, both of which had less rigid fund guidelines, already use hedge-like techniques, including intricate derivatives trades, short sales and investing borrowed cash.
Still other companies, such as Janus Capital Group and American Century Investments, have developed separate mutual funds that mimic hedge funds. These shifts the mutual fund industry are the result of the increasing popularity and recent superior performance of hedge funds. Formerly relegated to the rich and still subject to far fewer regulations than the mutual fund industry, data from Hedge Fund Research Inc. shows that the industry has gained 8% annually in the five-year period ending Dec. 31, 2005, trouncing the S&P 500 index, which gained a paltry 0.5%, and the U.S. diversified stock fund, which grew only 2% each year.
However, while these techniques are meant to bring better returns, some warn they may instead add fees and risk. Furthermore, some say that although shareholders approve management style changes, they may not understand the impact, since few read their proxies.
Allianz, for example, won permission from shareholders to trade more frequently. Critics suggest this could raise transaction fees, but Phil Neugebauer, an Allianz spokesman, says shareholders benefit when managers have increased investment options. The German company also has asked shareholders of 20 funds to allow managers to buy stocks with borrowed money. Together, these funds hold $14 billion.
"There are times when that flexibility is valuable," said Thomas Russo, of Lancaster, Pa.-based Gardner Russo & Gardner, who voted to support Allianz's proposals.
MainStay Investments, a division of New York Life, is waiting for shareholders to vote on a proposal to allow funds to trade in real estate.
Oppenheimer, like many mutual fund companies, has begun trading derivatives contracts predicated on commodities prices.
Currently, hedge-fund-mimicking mutual funds represent up to $300 billion in assets, a fraction of the $8.9 trillion mutual fund marketplace, according to Cerulli Associates. However, if stocks continue their sideways slide, the firm expects this proportion to increase.
Bond funds are also adopting hedge-like strategies. Seligman U.S. Government Securities shareholders have agreed to increase investments in non-governmental bonds and to trade derivatives. Principal Global has included commercial mortgage-back securities in its government bond fund. The Securities and Exchange Commission has limited the amount of risk mutual fund managers can take, but has failed to define the range of hedge-like tactics mutual fund companies can legally employ, despite 2003 staff recommendations.
"Somebody's starting to roll the dice," said Jeff Tjornehoj, an analyst at Lipper, a research firm in Denver, Colo. Tjornehoj warned investors to beware when a poorly performing fund seeks to improve by abandoning its guiding philosophies and adding risk.
The staff of Money Management Executive ("MME") has prepared these capsule summaries based on reports published by the news sources to which they are attributed. Those news sources are not associated with MME, and have not prepared, sponsored, endorsed, or approved these summaries.
