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Prognosis: Fund Industry in Critical Condition

The following article was posted at Indexuniverse.com yesterday by Robert Dubois, our Senior Vice-President of Investments….

In 2008, investors yanked $235 billion from non-money market mutual funds while adding $175 billion to exchange-traded funds. Market share of ETFs compared to non-money market mutual funds has doubled roughly every three years and now, it would appear, is poised to further quicken the pace.

While non-money market mutual funds suffered asset declines of 35% last year, ETF assets experienced only a 13% reduction, according to the Investment Company Institute.

With asset levels at many mutual fund companies standing at one-half to one-third of pre-crisis levels, mutual fund company revenue streams have hit a wall, leaving operations bleeding cash.

This fate is also shared by advisers having soft new asset inflows combined with client portfolios heavily weighted in anything other than cash and Treasury-related securities.

Moving To A New Way To Invest

Despite the massive toxic asset triage under way, what we are currently witnessing is the unsystematic, wholesale dismembering and dismantling of the 20th-century wirehouse model combined with an accelerated consolidation and downsizing of the mutual fund distribution segment.

Product and product purveyor are, quite absolutely and quite entirely, broken.

Both of these monumental, investor-driven trends were well under way prior to July 2007, but the financial crisis that has since unfolded has served as a crude yet incredibly powerful catalyst to their forward march.

No wirehouse brokerage firm has managed to avoid serious (and for many, life-threatening) damage over the past 18 months. And those that haven’t been fully extinguished now find themselves squarely on their knees.

Among those still standing (or kneeling), there are bound to be a few that will still exist five years from now-albeit in a brutally humbled and suitably reduced and narrowed operating form. Big bets gone bad in highly leveraged investment banking operations and proprietary trading books have fully succeeded in hastening the killing of the wirehouse wealth management “goose.”

But from there, institutionalized mediocrity (aka “advisor-assisted suicide”)-a consequence of entrenched wirehouse cross-selling priorities and related product mills-will, for many (advisors and clients alike), finish the job.

Investors Learn The Hard Way

Investors are learning, of course, to appreciate the importance of both superior product and superior advice.

But, unfortunately for most, they’re finding out the hard way.

Good advice doesn’t involve picking market tops and bottoms. And good product is low-cost, transparent, tax efficient and consistent in the type of exposure delivered.

Accordingly, among recent lessons learned are that precious little in the way of good advice or good product comes from conflicted, cross-selling advisory machines. And it doesn’t include actively managed mutual funds or focusing on advisors behaving as active mutual fund managers on matters of asset allocation.

How many times have investors heard this from their advisers before: “We seek to preserve and grow wealth”?

While advisers almost universally and sincerely wish to preserve and protect capital, the “preservation” matter has been purely rhetorical in practice. Where are the definitive and meaningful “preservation” elements or protocols in these strategies that happen to be routinely wrapped in a “preservation and growth” marketing message?

Going forward, real and tangible attention to the preservation side of the coin will be demanded by investors. And as the industry’s dead wood is burned away, investors will continue to expand their migration to advisors and product that embrace strategies adopting specific protocols to both preserve and grow capital, while utilizing clean, low-cost and transparent index ETFs as the obvious instruments of choice-instruments that actually complement such strategies.

Straight Talk From Advisers

Looking back, how often have we heard advisers claiming to possess a superior, secret or proprietary method for selecting active fund managers?

And those “superior” active mutual fund managers, of course, would like for us to believe that they possess secret or proprietary methods for selection of “superior” fund holdings. But who’s to know anyway? The specification of those fund holdings is kept secret from shareholders for three-to-six-month stretches (i.e., the body’s already turned cold thanks to arcane mutual fund industry reporting requirements).

Not surprisingly, the industry transition to low-cost, transparent index investing via ETFs is being driven at a grassroots level, by a long-rising tide of determined individual retail and institutional investors and like-minded advisers.

And in spite of the predominant 20th-century wirehouse and active mutual fund advisory service models, the use of ETFs and index investing will continue to gain traction within the adviser and individual investor communities.

So, how will the retail investing world look a decade from now? We can be confident that low-cost, transparent index ETFs will play a significantly larger role as will advisers who incorporate them into strategies that are genuinely suited to the task of “preserving and growing” client wealth.

How will the wirehouse and active mutual fund segments fare?

That’s much more difficult to predict. It’s like trying to figure out where a car might wind up after its accelerator pad remains stuck in a floored position with no brakes. The old guard of investing isn’t a very pretty sight to behold right now.

 And it’s not likely to be anytime in the not-so-distant future.

Join us at the library

Next week, in conjunction with the Missouri Council on Economic Education, we will be putting on a free investment seminar at the Plaza branch of the Kansas City Public Library.  The seminar starts at 7:00 pm and should run till about 8:00 or 8:30.

The seminar will include an overview of current economic developments and how investors can position their portfolios in these turbulent economic times.  After the presentation, we will be available for a question and answer session along with Mike English, the President of The Missouri Council on Economic Education.

 The seminar is open to the public and is primarily for people who do not have access to an investment advisor.  Having said that, we certainly welcome anyone who has an interest to attend.

Economic (March) Madness

In the spirit of March Madness, The Motley Fool decided to have some fun creating a “Blame Bracket” to determine who is most responsible for the economic madness we’ve all been experiencing over the past year.  While the “committee” did an admirable job selecting the field, there were surely a few disappointed “teams” left out of the dance (short sellers and the Nixon administration for canceling the Bretton Woods system come to mind).  Nevertheless, the tourney got underway without any monumental upsets in the first round including Wall Street sailing past Main Street and the SEC outlasting Fannie and Freddie.  Now down to the Elite Eight and with the clock striking midnight on the Cinderallas, the remaining heavyweights will battle it out for the right to wear the recession’s crown.  Here are the predictions:

Elite Eight contests:  The Media over Bernie Madoff, Repealers of the Glass-Steagall Act over Inventors of Derivatives, the SEC over Congress, and Wall Street over Geeks Bearing Formulas

Final Four:  Wall Street over The Media and the SEC over Repealers of the Glass-Steagall Act

Champion:  Wall Street over the SEC

So, there you have it.  At the end of the day, it was Wall Street who over-leveraged, Wall Street who blindly used derivatives and relied on quantitative models without understanding the risks involved, Wall Street CEOs who misled the media on the financial health of their companies, and Wall Street who used its political influence to limit the regulatory power of the SEC.

 

 

ETF Dividends

There is a brief story yesterday in the USA today explaining how ETF dividends work. 

In addition to trading on exchanges like stocks, ETFs also share other features.  The process for paying dividends is just like stocks: there is a date of record (the date in which the owners of the shares who will receive the dividend are determined), an ex-dividend date (the date an ETF is traded without the benefit of the current dividend is attached to the share), and a payments date (dividend is paid).

An Inconvenient Debt

A day after I suggested ignoring all the talking heads on TV and just watching M2, I came across this hilarious youtube clip.  I’ll admit I had never even heard of Glenn Beck before, but he’s explaining in a more creative way what is going on with M2.

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