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Direct-Sold Firms Make Other Plans

Right now, everyone needs the middleman.

As the direct-sold mutual fund market shrinks, traditionally direct-sold fund firms are increasingly going after assets through financial intermediary channels. Investors want advice now more than ever, according to industry observers, and no-load firms are therefore putting a lot of money and effort into gaining intermediary assets through mutual fund wrap programs, 401(k)s and registered investment advisors.

According to a recent study by Cerulli Associates, 64% of direct-marketed mutual fund firms' net flows in 2000 were attributed to financial intermediaries. The direct market accounts for just 29% of mutual fund assets right now, and that number is likely to continue to shrink, according to Matthew McGinness, one of the authors of the Cerulli study.

"I think there are a few logical jumping out points for direct firms to get in on intermediary assets," he said. "The direct market has really started to contract, and we've found that direct-sold firms are consequently targeting mutual fund wrap programs, consultant wrap programs and 401(k)s."

The 401(k) and mutual fund wrap markets are estimated to hold around $2 trillion and $250 billion, respectively, and both continue to grow, according to Financial Research Corporation. One reason 401(k)s and wrap programs are a great opportunity for direct-sold firms is that they can add their products to programs without having to add a load class, which can be costly, said McGinness.

Wrap programs charge a fee for shelf space;' however, a fund's 12b-1 fee, which is attached to an advisor class, can be used to pay that, said Kristin Adamonis, an FRC analyst. T. Rowe Price, for example, has set up that arrangement with Smith Barney that includes T. Rowe Price's 10 funds with advisor share classes in Smith Barney's wrap account platforms.

No-Load with an Asterisk

Traditionally, no-load funds have had 12b-1 fees no higher than 25 basis points, however, firms have begun to stretch that, Adamonis said. For example, INVESCO and American Century have added

advisor shares with 12b-1 fees of 45 and 50 basis points, respectively, all of which is paid to a provider. That trend is likely to continue and has created a new type of share class, Adamonis said. "No-load with an asterisk, if you will."

"As the direct channel continues to decline and sales through intermediaries takes its place as the primary source of distribution, advisor shares could be the key for many direct-sold firms to participate in the growth of the industry," Adamonis wrote in a study on no-load advisor shares. "It is likely that more direct-sold firms will begin pursuing this approach in the near future and the added competition will place more upward pressure on 12b-1 fees."

Direct-sold firms have even begun aggressively pursuing registered investment advisors, according to Ramy Shaalan, a mutual fund analyst with Wiesenberger/Thomson Financial. (Thomson Financial is the publisher of MFMN.) "Even if a company already has an advisor share class, many are making a proactive effort to go after advisors and sell more funds," he said. Those firms are targeting intermediaries by increasing their sales forces, advertising in trade publications, and developing value added programs in an effort to develop a relationship with advisors, said McGinness of FRC.

Indeed, some firms have added load shares to their traditionally no-load offerings. Scudder Investments was an extreme example of that. After merging with Kemper Funds, Scudder, traditionally a no-load family, converted all of its funds to load funds.

Several others have added load classes such as INVESCO, Strong Capital Management, Gabelli Asset Management, American Century, Founders Asset Management, and Fidelity Advisors, among others, McGinness said.

And, of course, those firms have begun promoting those share classes to advisors. In the August edition of Financial Planning magazine, (also published by Thomson Financial), American Century advertised it's recently launched C-class shares. "American Collaboration," the ad reads. "It's helping you guide your book of business to a fee-based structure that works for you. It's introducing American Century C class shares, which provide you with a steady revenue stream of monthly payments..."

The Name Game

In the September issue of Financial Planning, the Vanguard Group advertised its exchange-traded fund share class, not specifically an advisor class. Still, the ad, which reads, "Exchange-Traded Funds from a name your clients can trust," brings up an interesting point: might it behoove an advisor to utilize a traditionally direct-sold fund name that his or her clients know well?