My post today will center around some facts that were not
pointed out in a recent article I read on WSJ.com entitled A Tale of Two Fund Giants. The
article can be read here: http://online.wsj.com/article/SB10000872396390444873204577537241786609710.html
The article focused on how two very large fund families, the
American Funds and Vanguard Funds, have been moving in opposite directions,
when it comes to asset inflows and outflows.
The facts are accurate but the article suggests that performance is the
reason for the American Funds recent slide in favorability amongst
advisors. Since the American Funds are exclusively
sold through advisors then it is fair to assume that financial advisors are at
the heart of the problem for the American Funds.
Performance
The article suggested that performance was the major
contributing factor to the American Funds sudden problems attracting new
inflows and preventing outflows. My
thoughts on this are simple……you get what you pay for. My biggest problem with the American Funds as
a one stop place for an investors dollars is the little diversification they
offer investors to do so. They are a
mega/large cap institution. They have
been around for so long, that in many cases they are the single largest
shareholder of some of the largest capitalized stocks in our economy. Throughout the 1990’s this became a growing
concern for the American Funds. Their
fear was that if one of these stocks ran into problems then it could absolutely
destroy one or two of their funds that hold the stock. As a result, they began to spread these large
positions out across most of their funds.
The end result has been very little diversification across their fund
base and highly correlated returns.
The article suggests that financial advisors are blaming
performance for their decision to direct client assets away from the American
Funds. This is a bunch of bologna and I will
explain the real reason in a little bit.
What type of performance did investors and advisors expect to receive
last decade? The decade earned the title
the “Lost Decade” because between the years 2000 and 2009 the S&P 500 index
lost 9.1% of its value. The index is primarily
a large cap index. Being that the
American Funds are a large cap institution they should have performed poorly in
that decade. Large caps were out of
favor. Here is the performance (not
including the very important sales charge) of four flagship American Funds
during the “Lost Decade”:
American Funds Washington Mutual A (AWSHX) +31.89%
American Funds Investment Company of America A (AIVSX) +28.02%
American Fund Growth Fund of America A (AGTHX) +26.03%
American Funds Fundamental Investors A (ANCFX) +42.50%
While the returns were not robust, you can see that these
funds actually held up very well in an environment when large caps were out of
favor and underperforming other asset classes.
Today we are in an environment where large caps are soaring and carrying
the markets higher. Over the last twelve
months for the period ending August 7, 2012 the S&P 500 is up 27.97%. That is an incredible return that not many
people are talking about. Again, the
American Funds are a large cap firm, and you should see a correlation in
returns to the large cap S&P 500 index. Here are the returns of these same four
flagship funds over the last twelve months:
American Funds Washington Mutual A (AWSHX) +26.87%
American Funds Investment Company of America A (AIVSX) +24.13%
American Fund Growth Fund of America A (AGTHX) +21.89%
American Funds Fundamental Investors A (ANCFX) +23.99%
The Real Reason For
Outflows
While financial advisors are quick to blame past performance
for their reason to instruct clients to sell the American Funds, the pure and
simple reason is cold hard cash.
Performance has nothing to do with the departure, and if it did then the
advisors should be the ones questioned for putting all of their client’s assets
in one asset class (large caps) to begin with.
The fee based advisory platforms at the major firms are the reason why
the American Funds have been losing assets.
In the past an advisor would sell the American Funds, collect a nice
commission up front on the sales charge, and then have their clients hold the
funds forever. Advisors had incentive to
do so because they were collecting an annual fee, called the 12b-1, every year
based on the total amount of assets they had with the fund family. The trailing fee was .25%. Once the fee based platform became common
place at the firms the advisors simply did the math. Why collect .25% per year when you can move
those assets into a fee based platform and earn anywhere from 1% to 2.5% per year
of the clients total assets? It’s not
hard to understand but yet was never talked about in the Journal article.
I come from a very small town. However, that very small town sported one of
the biggest American Fund books in the country.
For quite some time the advisor there had the largest amount of American
Fund assets per advisor in the country.
He began his career in the 1960’s and you can still walk around town and
run into someone that will tell their story of the fortunes he and the American
Funds made for that person over the long-term.
By the end of his career the book had become so large, and he was
getting up there in years, that he then began to work as part of team of
advisors. The team members were chomping
at the bit for him to finally retire.
Since his retirement over three years ago the American Funds book of
business has been purged. Imagine going
from making .25% per year on all of those assets to making 1% or more per
year. That is quite a pay increase!
If anything this mass shift out of the American Funds by
advisors over the last few years has probably cost their clients a nice return
on investment. They supposedly made this
shift based on past performance and ever since the shift, large caps have once
again established a leadership position, which means the American Funds will
follow. Anyone ever hear of reverting to
the mean? If advisors had any clue how
to build a true tactical allocation portfolio for clients, then they would not
have had them buried in just large caps for over a decade.
I thank the author for bringing this shift out of the
American Funds to our attention, but I wish he would have dug a little deeper
into the real reason why this is taking place.
Thank you and good luck everyone!
Disclosure: I do not
own any American Funds and I do not currently own any American Funds in my AFL
Models
http://www.allocationforlife.com/
