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Fund Execs Say It's Time to Get Real


WASHINGTON - It's reality-check time for mutual fund executives as restoring confidence through lowered expectations could be something of an albatross for the industry.

That was one of the most troubling messages from the nation's capital last week as top-level executives from the leading mutual fund complexes met during the Investment Company Institute's Annual General Membership Meeting.

An opening-day roundtable discussion, moderated by CNBC News Commentator Tyler Mathisen, outlined a number of concerns for the industry including restoring investor confidence, investor education, the allure of alternative products and bracing for the retirement of Baby Boomers. Their comments were particularly striking because, for the first time, the industry seemed to be conceding that conditions are worse than they previously thought.

The star-studded affair featured a trio of panelists including Robert Reynolds, vice chairman and chief operating officer of Boston's Fidelity Investments, William Thompson, managing director and chief executive at Pacific Investment Management, and James Rothenberg, president of Capital Research and Management Co.

On the topic of investor confidence, Reynolds kicked off the debate with some optimistic remarks, saying that while equity markets have fallen on hard times in recent years, investors have been surprisingly resilient. He pointed to the fact that more than half of American households currently own mutual funds. But he tempered his enthusiasm by saying that it is critical for fund executives to focus on what they can do to catch the winds in light of the changing landscape. "Performance is still the name of the game," he said.

The New Standard

It is important for investors to adopt more realistic expectations, according to Rothenberg. "There's no silver bullet," he said. Thompson agreed, saying that lowered expected returns have become the new standard. The panel agreed that returns ranging from 5% to 8% were now realistic goals for investors. If fund companies cannot deliver a 5% return on an investment, then investors will demand that heads roll. And fund executives know it.

The topic of conversation quickly turned to the potential threat of alternative products such as hedge funds, separately managed accounts (SMAs), annuities and exchange-traded funds. Reynolds acknowledged that hedge funds are attractive right now because they are privately held, they have access to substantial resources and a potential for a high growth rate. The risk to the individual investor, however, is far greater than that of a mutual fund product.

"The hedge fund model is not necessarily the career choice that will last," Thompson cautioned. "The challenge will be to confine [our focus] to educate our clients, who are trying to make meaningful decisions about where to invest their money."

That seems to be the consensus among mutual fund executives regarding many of the alternative products being marketed to retail investors.

Rothenberg was more demonstrative in his criticism of all the hype surrounding separately managed accounts during an interview with Money Management Executive, calling them "a ridiculous product." He pointed out that SMAs charge expensive fees for a portfolio that is not actively managed. "It just doesn't make sense," he said.

Avoiding scandal through regulation was the next order of business, a topic that often prompts a scowl on the faces of ICI executives. Rothenberg asked that the industry lose the song and dance when it comes to criticism of industry practices. A more important step, he said, is preserving the relationship between the Securities & Exchange Commission, National Association of Securities Dealers and mutual fund companies. Essentially, he suggested that a more palatable approach is for companies to pick their battles.

"It's dangerous to toot your own horn," Reynolds said. "But when attacked, we need to be willing to swing back." For instance, many firms, including Fidelity, have been scrutinized for forgetting about the little guy in order to go after high-net-worth individuals. He reminded investors that the sweet spot for Fidelity is the middle market - and said this always has and always will be Fidelity's focus.

Another concern that has been played up in the press lately is the vast number of Baby Boomers moving closer to retirement. Some in the industry believe this could cause a substantial contraction. They maintained that Boomers will remain invested because they are living longer, healthier lives. The most important theme for Boomers, the panel outlined, is that they learn expansive and fundamental lessons from their mistakes during the market downturn.

One trend the industry can expect to see is Boomers swinging from equities to a more conservative product such as fixed income. And financial planners will become increasingly more important in implementing an asset-allocation strategy. While preaching portfolio diversification and that stock prices fluctuate are important points to consider when investing in mutual funds, producing investment returns remains the bottom line, the executives said.

Rothenberg summed up the discussion saying both his biggest hope and fear is meeting the expectations of investors. But if investors don't see these "realistic" returns any time soon, they may come to an alarming conclusion: Reality Bites.

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