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Industry Quest for Profitability Is Criticized

BCHICAGO - The recent spate of acquisitions and buyouts in the fund industry are indicative of the profitability of the industry, said industry executives and analysts.

The trend is also proof that fund companies have lost touch with their essential purpose of acting as fiduciaries and are more interested in generating profits for themselves then serving shareholders, said John Bogle, former CEO and founder of the Vanguard Group of Malvern, Pa.

Bogle, who spoke at a conference sponsored by Morningstar of Chicago here late last month, cited the recent buyout of Marsico Capital Management of Denver by the Bank of America of Charlotte, N.C. for $1.1 billion as an example of the industry having lost site of its fiduciary responsibilities.

"If someone pays this amount of money for a firm, you have to ask if they are getting into it for their own profit or for the profit of the investors," he said. Bank of America acquired a 50 percent stake in Marsico in December of 1998 for $120 million.

The drive for profits has prompted many firms to focus on performance in the marketing of their funds and to launch funds with heavy exposure to strong performing market sectors, he said. Fund companies are also more inclined to churn portfolios in an effort to improve performance, he said. Both practices are bad for funds and investors alike, he said.

"Fifty percent of funds started in the 90's are gone," he said. "Investors churn assets because they learn it from their managers."

And because they allow investors to invest and redeem without penalty, exchange-traded funds are exacerbating the turnover problem that he sees in the industry, he said. One of the biggest flaws with exchange-traded funds is their tendency to trade at either a premium or a discount to their net asset value, he said.

And he said there is insufficient price competition in the fund industry.

"Prices are clearly going up," Bogle said. "Someone ought to figure it out, because the investor will sooner or later."

Bogles comments were echoed by Scott Cooley, an analyst with Morningstar.

"There is no price competition in the industry," Cooley said. "Expense ratios should be lower than they are even by the ICI's numbers."