What has the mutual fund industry accomplished in the past 30 years, and how is it poised to build on these developments in the next 30 years? I think the crowning achievement for the mutual fund industry over the past three decades was turning a nation of savers into a nation of investors. If we look back 25 to 30 years, the financial markets were stagnant. I joined the industry in 1982; stocks had lost an average of 2 percent per year for the previous 10 years taking into account inflation. People weren’t interested in investing. With interest rates in double-digit territory, saving seemed easy, safe and productive.
As a result, money flowing into bank products was 3.5 times greater than cash flows into mutual funds. Mutual funds were a fringe player in the financial world, with about $350 billion in assets in 1982, 75 percent of which was invested in money market funds.
As stock market conditions began to improve in the mid-’80s, so did the fortunes of the mutual fund industry. About one in 10 American households owned mutual funds at that time; today, nearly half of U.S. households are fund investors, entrusting some $12 trillion to our products. We as an industry helped turn passbook savers into financial markets participants. That’s looking at it in the aggregate. It is more compelling and rewarding to look at on a singular basis. Nothing gratifies me more than receiving a letter (or more often these days, an e-mail) in which the writer tells me he sent his two kids to college thanks to Vanguard Wellington Fund.
This industry was built shareholder by shareholder. And the loyalty and trust that we’ve built with an entire generation of investors is why I continue to be optimistic about the future of this business. And this trust isn’t happenstance. It results from the culture of the mutual fund industry, which is quite different from that of many other industries. The difference is that we live our lives with a sense of fiduciary duty. Of course, that duty exists by statute, but more importantly is core to our culture. This is such as a key aspect of how mutual funds have competed and, to an extent, dominated much of the competition over the course of the past several decades.
It’s summed up in the short statement, “The interests of the client always come first.” Yes, that’s a motto that’s been used to sell everything from cheeseburgers to airline tickets. But for the successful firms in our business it’s a way of life, and it is woven into the very fabric of our industry.
It’s easy to say, but having lived it for the past 25 years, I believe this philosophy of “what’s good for the client will be good for the firm” has been the single most important success factor for this industry.
Finally, I am optimistic because this is a highly competitive industry. To paraphrase Gordon Gekko: “Competition is good.” As you know, competition drives innovation in any line of business, but it’s been absolutely critical to moving our industry forward and improving the way we serve clients. Over the history of the mutual fund industry, firms have empowered clients with choices about how they invest. There have been significant innovations in the products investors can select, how they pay for them, and the related services they receive.
What do you expect the fund industry to look like 30 years from now — in terms of its size, number of players, global growth, regulation, clients, technology, etc.? The industry will undoubtedly be larger from an assets-under-management standpoint. And while the next 30 years might not be as salubrious in the financial markets as the last 30 years, I view the growth prospects to be quite good. We’ve also benefited tremendously from a highly favorable tax environment — from the IRA and traditional 401(k) of yesterday to the Roth 401(k) and the 529 plan for college savings. These policies have been a great benefit to investors and great growth engines for the industry. They will continue to be winds at our collective backs.
The industry will be larger, but dominated by fewer firms. The large private firms that remain adaptive and innovative will continue to be successful. Small boutique firms will also have the opportunity to thrive. That’s been the long standing tradition of the business.
U.S. fund groups also have a huge opportunity to grow their business globally. As an industry, we offer the best value in the world. As markets open up and firms seek to diversify their businesses, you’ll see U.S. companies with the scale, expertise and flexibility begin to meet more success on a global scale.
Technology has also played a key role in the industry’s success and will continue to do so. The shareholder is largely oblivious to the back-office technology gains that have made fund firms vastly more efficient and cost-effective. On the other hand, the client does see the Internet, which has revolutionized mutual fund investing. Investors can learn about investing online; they can conduct investment transactions online, and they can manage the mundane details of account management online. As bandwidth increases, you will likely see more personal advice and account management delivered through the Internet, enabling firms to interact with clients and create more personalized solutions to their investment needs.
What will be the most important development for the industry in the next 30 years? Demographics present a tremendous opportunity for the fund industry. The baby boomers that “grew up,” if you will, investing in mutual funds are beginning to retire. I frequently use myself as an example. I was born in the middle of the baby boom and made my first IRA and 401(k) plan contributions in 1982. A mutual fund company has been my investment provider to this point and will continue to be. The bottom line is that the product that served boomers extraordinarily well as accumulators will continue to serve them extraordinarily well as retirees.
The transformation in the U.S. private retirement system from a trustee-directed defined benefit system to a participant-directed defined contribution one also augers well for the industry. With the trend away from traditional DB plans, the future retirement security of American workers rests squarely on the DC plan. Today, 80 percent of the private workers with a retirement plan are in participant-directed defined contribution plans. The IRA, too, will continue to play a prominent role in the investing programs of millions of Americans. Roughly one-quarter of the $16.4 trillion in U.S. retirement assets are held in mutual funds via IRAs and 401(k) plans. These two vehicles will be the mainstay for a whole new generation of investors, securing the place of mutual funds as the dominant provider of retirement security for the next 30 years and beyond.
What will be the most challenging aspect of the business in the next 30 years, and how is the industry positioning itself to cope effectively with this?The mutual fund industry is a large and successful industry. That makes us an inviting target. It is the Willy Sutton principle. The fund industry is where the money is.
As such, competition will be our greatest challenge. Just as we built our business partly by disintermediating the banks and other traditional providers of financial services, others are now intent on doing the same thing to us. Over the years, there’ve been numerous products that, according to outside observers, were going to spell doom for the mutual fund industry — from ETFs (which ironically are mutual funds) and separately managed accounts to hedge funds and annuities.
Mutual funds have withstood the test of time, largely on their intrinsic attributes of professional investment management, diversification, liquidity, independent oversight and disclosure that must meet tough regulatory standards. On the three critical dimensions of cost, disclosure and governance, there’s simply no contest between mutual funds and any other investment product.
I say it quite often, but it bears repeating: The mutual fund is the greatest investment product ever invented. It’s a phenomenal product for big and little guys alike. From the novice 22-year old investor scraping together a little bit of money to open an IRA to the largest institutions investing billions in their pension plans. I think it is fascinating, and very telling, that some of the smallest Vanguard shareholder accounts and some of the largest Vanguard shareholder accounts are invested in the very same funds. It’s a tribute to the flexibility and the value of the product.
Would you like to share any other thoughts on the future of the industry?I’m a total optimist. I have a glass-is-all-the-way-full outlook on things — especially when it comes to the mutual fund industry. And I’m even more optimistic today than I was at the turn of this century because our industry withstood two great challenges — either one of which could have been the ultimate test for our industry.
The first was the deepest and longest bear market in half a century. After a remarkable run for the markets and the industry, for 18 years from 1982 to 2000, a bear market like we experienced could have devastated our business by proving that our clients were only as loyal as the Dow Jones was high. It didn’t turn out to be the case.
The second was the self-inflicted wounds to firms, and to an extent the industry, from the awful disclosures about late trading and market timing. In a similar way, these regulatory issues in the 2003-2005 period could have derailed this industry, could have allowed competitors to enter and take share of mind and share of wallet. But while it was tough at times, we weathered that storm, too.
In the end, facts tell the story. We entered this century with $6.8 trillion in mutual fund assets, and today we have nearly twice that amount. While the market-based challenges we faced proved the resiliency of investors, the challenges to our reputation proved that there was a broad base of goodwill and loyalty to the industry that was unshakeable — even as some individual firms paid a severe price.
While I’m an unabashed optimist about the future, I’m also a realist. You face challenges, and you either overcome them or you don’t. We did as an industry. We’ll face them again.
John J. Brennan, 53, is now chairman and CEO of Vanguard; he has been CEO since 1996 and will retire from that post within a year, while staying on as chairman. He joined Vanguard in 1986, and along with other employees, has helped the company expand to include some $1.25 trillion in assets under management.