New products rise. The all-star fund manager is a fixture in the fund world. Names like Pimco's Bill Gross or Fidelity's William Danoff still grab headlines. But new types of investment products that cater to a growing interest in smart asset allocation rather than smart stock- or bond-picking, are giving the traditional mutual fund a run for its money. Active fund managers who can't beat their benchmarks are going to increasingly lose out, experts predict. "The do-it-yourself investor peaked in the late '90s," says Fox.
This decade, no rival to traditional funds has come on as strong as the exchange-traded fund. These popular, low-cost index trackers hit a milestone in late 2009, when assets under management topped $1 trillion, soaring from less than $40 billion a decade ago, according to asset manager BlackRock. The passively managed funds, which follow everything from baskets of global stocks to gold, offer an attractive proposition: broad exposure to dozens of new parts of the market at a fraction of the cost of traditional funds. ETFs are already going head-to-head with actively managed funds that hew close to an index, bolstered by lower fees and the fact that they trade like stocks, at any time during the day (traditional funds trade just once a day). Experts say traditional funds that will face the most pressure from ETFs include large-cap domestic stock funds, especially those that have spent years comfortably mirroring major indexes like the S&P 500.
Target-date funds, another fast-growing option for investors looking for a simple way to diversify a portfolio, gradually shift to a mix of more conservative assets as a specified date of retirement nears; they offer a built-in asset allocation "glide path" designed to gradually decrease risk over time. Such funds drew ire in 2008, when some aging target-date investors were spooked by the amount of equity risk in their funds as markets sank. The outcry prompted a government call for improved risk disclosures by such funds. But the asset class appears to have weathered its first major test in respectable shape, if consumer demand is any indication. In 2009, new enrollees in company retirement plans put 42 percent of total contributions into target-date funds. The newly launched Fidelity Series Commodity Strategy Fund, used as part of the company's target-date portfolios, garnered some $2.67 billion in net assets in its first six months.
[See The Appeal of Gold ETFs.]
Interest in both ETFs and target-date products has been "off the charts," says Fran Kinniry, a principal of Vanguard. Their rise will continue to influence how investment companies shape their offerings. Big investment houses like Fidelity and Vanguard have broadened their mix of both active and indexed products. Some small money managers are building all-ETF portfolios, and a survey by Cerulli Associates shows that nearly half of advisers used ETFs in 2009, though only for a small percentage of assets.
A hiccup in fees' long decline. Low costs have long been among the biggest selling points for mutual funds; average annual fees and expenses paid by mutual fund investors have fallen by half since 1990. Unfortunately, bad times in the economy and markets are also bad for fund fees.
Last year, fund expense ratios jumped to their highest levels since 2000, according to Morningstar. When investors pull their cash out in a panic and the size of a fund shrinks, the cost of running that fund remains fixed, so expense ratios can edge up. Another culprit: Many funds use so-called break points. For example, a fund could charge a 4 percent front-end sales load on an investment above $25,000, but up that fee to 5 percent for smaller investments. Some funds can raise such fees automatically if total assets fall below a certain level.
If it seems counterintuitive that funds would raise fees rather than cut them as investors raced for the exits, the process also works in reverse. As assets flow back, keep an eye out for announcements of lower fees among the more brazen funds.