A New Rule Book For Fund Managers
Patricia C. Dunn knows how to make a memorable first impression. A relative unknown on the retail mutual-fund circuit, the chief executive of Barclays Global Investors hit the industry's annual summer powwow in Chicago with a show-stopper. Breaking the feel-good mood among the audience of fund managers, advisers, and investors, she waxed ironic about fund managers' "rare gifts and genius," then denounced the industry's high fees. The punchline: Investment managers sell "for the price of a Picasso [what] routinely turns out to be paint-by-numbers sofa art."
Why is the daughter of a Las Vegas showgirl and a vaudevillian father, whose career is marked by not ticking off the wrong people, rankling the industry now? The grandstanding is not typical of Dunn, 47, who for a quarter-century has worked for the same employer, rising from part-time secretary to CEO. As she has worked behind the scenes, so, too, has BGI. But the San Francisco company, a unit of London's Barclays Bank, is the world's largest manager of index funds, with $825 billion in assets. Among its clients: the pension funds of Boeing, General Electric, and Sony. If BGI were a stock exchange, it would be the 10th largest in the world--and few have heard of it.
Dunn's outspokenness isn't just an act. She's serious about putting BGI on the retail fund market map for good. For most of her two years as chairman--a title she insisted on having--Dunn has been moving the Old Economy BGI toward a New Economy frontier: The company has branded a new series of exchange traded funds, or ETFs. ETFs are index funds that trade like common stocks on the American Stock Exchange. BGI has rolled out 56 iShare funds since May, including the least expensive fund to track the popular Standard & Poor's 500-stock index. The fund charges less than one-tenth of a percent of assets a year--a tad over half of what former low-cost champ, the $105.6 billion Vanguard 500 Index Fund, levies.
The appetite for ETFs is huge in part because retail investors can now buy or sell a fixed basket of stocks throughout the day. By contrast, conventional mutual funds are priced just once a day. That limits an investor's ability to react to important market news. Even for buy-and-hold investors, the new ETFs are appealing because they slice and dice the market between growth or value, for example, or energy or technology stocks. Sales of BGI's new funds bear out the interest: The first four offerings pulled in $1.07 billion in three days. In all, the 56 funds have attracted more than $3.6 billion in just three months.
SCRAMBLE. BGI's product blitz has stirred a price war in the $53 billion ETF market. State Street Global Advisors, which runs the oldest ETF, its seven-year-old flagship $21.8 billion SPDR, or Spider Fund, dropped its annual management fee to 0.12% from 0.18% of assets, and halved fees on other sector ETFs, to 0.28% of assets.
Other mutual-fund companies are scrambling to join the trend. Nuveen, Salomon Smith Barney, and Merrill Lynch all plan to offer new ETFs this year. Even the king of index mutual funds, Vanguard Group, which has expelled investors caught routinely trading in and out of its funds, is joining the fray. It will launch ETFs called Vipers, based on five of its nine stock funds, this fall.
Taking on the industry's retail heavyweights is a big departure for risk-averse players such as Dunn and BGI. It meant they had to dive headfirst into a highly competitive market with scant name recognition and an arcane product few understand. Worse yet, they may not have the skills to establish meaningful ties with individuals and brokers who sell their funds. BGI's fee advantage in ETFs pales in comparison to the range of services provided by top managers, such as Fidelity Investments and Vanguard, according to New York's Strategic Insight, a mutual-fund research company. "When you buy a traditional mutual fund, you establish a direct relationship," says analyst Edgar Cha. "The broker relationship is a weak link."
Despite the growth in index-fund sales, the market is still less than 10% of the $7 trillion mutual-fund market. That's because investors are still enamored with hotshot managers and the lure of high-flying returns. "Until actively managed ETFs are developed, they are not going to consume the mutual-fund industry," Cha says. It could be a few years before anybody figures out how to create an actively managed ETF, which would trade shares of, say, the Fidelity Magellan Fund. Still, analysts at Boston's Financial Research Corp. say both classes of ETFs, expected to be a $600 billion business in five years, will become substantial competitors to traditional funds. "It makes sense for BGI to give it a shot," says FRC analyst Chris J. Brown. "Whoever gets to market first is going to have a tremendous advantage."
Swimming against the tide has become second nature to Dunn. She started without ambitions for a finance career. Graduating from college "desperate for a paycheck," she landed a temp job at Wells Fargo Bank. Almost three decades later, having moved from marketing assistant to trader and portfolio manager, this Las Vegas transplant is running the company. Similarly, BGI has amassed a huge asset base from chance beginnings. Formerly Wells Fargo Bank's Trust Banking Services, the department created the first index strategy in 1973, after hiring Chicago academics Fischer Black and Myron Scholes to develop new ideas on quantitative fund management. In 1973, the Wells Fargo S&P 500 Index Fund was born, three years before Dunn was hired to help point man David Egan sell the strange new offering to institutional clients. Says J. Parsons, director of iShares sales: "We've taken the culture of innovation and creativity and put a motor on it."
Dunn won't say what the ETF rollout is costing. She has hired more than 100 people and earmarked $12 million for TV and print ads this year for the big iShares push. BGI Canada will introduce two of the first fixed-income ETFs, five more funds will be listed on the London Stock Exchange, and two in Tokyo. The Chicago Board of Equities will debut the iShares S&P 100 Fund, while the New York Stock Exchange will offer its first ETF, the iShares Global 100, which is the first fund to offer investors a piece of the 100 biggest multinationals.
The industry may not like it, but Dunn's noisy entry into the mainstream has changed the rules. Like Dunn, ETFs will make a lasting imprint.