As the mutual fund industry squirms under growing allegations of wrongdoing, providers of exchange-traded funds and separately managed accounts may be cheering in the background.
Replacing funds implicated in recent scandals with funds that haven’t been involved may not be a popular strategy, because it’s unclear which funds will be next to be named by regulators. Although numbers aren’t yet available, fund watchers say that some wealthy and tax-savvy individuals already are turning to alternative investments. The mutual fund scandals will just provide “an extra bump in the growth” of these products,” says Gerry O’Connor, a director with the research firm Spectrum in Chicago.
Exchange-traded funds are baskets of securities that trade like stocks. Separately managed accounts are customized portfolios overseen by professional money managers. Of course, these products carry their own risks and limitations. For one, they may be managed by the same firms that are entangled among the allegations of market timing and late trading, practices that benefited certain privileged investors at the expense of others.
It’s unlikely that ETFs and SMAs will ever totally replace mutual funds, says Cindy Zarker, a senior analyst with Boston research firm Cerulli & Associates. She notes that not all funds will be tarnished by the scandal and says that those that remain unscathed will attract assets.
Both SMAs and ETFs have been gaining market share in recent years. ETFs grew to $119.7 billion in assets in September 2003, compared with assets of $63.5 billion in 2000, according to data from the Investment Company Institute, the mutual fund industry’s largest trade group. Meanwhile, separately managed accounts have grown to $456 billion in assets compared with $417 billion in 2000, according to Money Management Institute, a research firm in Washington, D.C. Mutual fund assets total about $7 trillion, although there have been some outflows in recent weeks from some of the funds implicated in the scandal.