Investor Expenses High Despite Firms’ Profits

Mutual fund companies enjoyed a robust profit year in 1995, but relatively few firms shared the wealth with investors by cutting costs.

Numbers for 1995 haven’t yet been reported by all fund companies, but the results so far indicate that there was no discernible trend to lower expenses, which are levied as a percentage of assets in a portfolio.

“There weren’t any differences in 1995 as far as average expenses being lowered or increased that year,” says Lynn Townley, a data analyst at Morningstar Inc. of Chicago.

Considering that asset growth for the industry last year was so strong--a gain of $620 billion through November--fund companies could have collected higher fee income while still reducing shareholder expenses.

Fund companies probably figured--rightly so--that most investors wouldn’t notice expenses during a year in which the typical domestic stock fund surged 25% and the average bond portfolio gained 15%. But expenses are more predictable than investment results, and high expenses can exert a major drag during weaker markets.

Van Kampen American Capital Growth & Income and Robertson Stephens Value & Growth were among the funds with notable fee hikes in 1995 despite surging assets. American Heritage saw its expenses shoot up by more than a full percentage point, primarily because the fund lost assets during a period of incredibly poor performance.

Numbers compiled by Morningstar through the first eight to 10 months of 1995 indicate that expense ratios rose among several categories of mutual funds, including those in the aggressive-growth, equity-income, global and small-stock camps.

Expenses among growth and growth-and-income funds dropped modestly--by about 70 cents and 50 cents, respectively, for each $1,000 a person had invested. But assets in these groups swelled by more than a third.

The trend to higher expenses is nothing new. The average stock fund charged 1.44% in expenses in 1994, equivalent to $14.40 for each $1,000 invested, Morningstar reports.

That’s down slightly from peak levels in the early 1990s but up from 1.17% a decade earlier. You would expect better economies of scale considering fund assets swelled ninefold between 1984 and 1994.

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Several factors explain the rising expense levels:

* Expanded shareholder services, such as the toll-free phone lines.

* The large number of new funds, which tend to be more costly because of their small size.

* An increase in international funds, which tend to be more costly because of higher travel and research costs. Funds that invest in emerging foreign stock markets saw their expense ratios shoot up to 2.36% or $23.60 per $1,000 in assets, according to preliminary Morningstar data. That’s up from an already-high 1.94% in 1994.

But more than these factors, a change in the way brokers are paid to sell mutual funds explains the rising expenses. Load-fund groups used to levy large front-end commissions of 8.5% or so, but most such firms have cut these overt charges in favor of 12b-1 fees, which are used to pay brokers but in smaller bites spread over many years. Front-end loads aren’t included in a fund’s “expense ratio,” while 12b-1 fees are.

And there’s another factor: Fund companies simply have been reluctant to reduce their profits by cutting fees.

A good example is Fidelity Magellan, which added nearly $20 billion in assets during 1995 but cut expenses by only 3 cents for each $1,000 invested.

However, Fidelity in recent years has cut loads on some funds without boosting expenses, says Jack Bowers, editor of the unaffiliated Fidelity Insight newsletter in Rocklin, Calif. “I think the trend at Fidelity is more down than up,” he says.

Two ways fund companies are trying to keep a lid on fees are by restricting services and cutting out the smallest investors, who tend to be proportionately costly to service.

Boston-based Fidelity, for example, last year imposed a $12 fee on fund accounts below $2,500, and the Vanguard Group of Valley Forge, Pa., says it will impose a $10 annual fee in mid-1996 on fund accounts with balances below $2,500. Vanguard estimates that about 140,000 shareholders could be affected.

Also, Vanguard recently raised its minimums on individual retirement accounts and gift accounts to $1,000 from $500, while Janus Funds of Denver will raise its minimums after Feb. 15 to $2,500 from $1,000 on regular accounts, and to $500 from $250 on IRAs and gift accounts.

Janus also plans to reduce its mailings of statements on some funds from monthly to quarterly, and it has streamlined its prospectuses and annual reports in a move the company expects will save 50 million printed pages a year.

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A study by Putnam Investments of Boston concludes that retirement-planning calculations don’t work for most younger people because the financial numbers are overwhelming, retirement is still too many years away and life in retirement is too difficult to envision.

Among the survey’s findings was that 55% of all respondents--and 60% of baby boomers--become “very discouraged” when they are presented with calculations that show how much money they will need for retirement.

This might explain why a majority of Americans, 53%, expect a retirement-savings crisis in America as the baby boomer generation grays, Putnam said. The survey drew comments from 1,000 people.