Financial Planning: A Midyear Guide 1987 : part three: Mutual Funds : New Mutual Funds Appeal to Those Who Like Element of Risk

Times Staff Writer

Until recently, investing in common stock mutual funds was considered, well, boring.

"The funds were for conservative people who wanted a managed investment--something that they didn't have to worry about," said Neal Litvack, marketing manager for Fidelity Investments.

But times have changed, and with a vengeance. Purveyors of mutual funds have come up with so many new twists in recent years that today's investor faces a bewildering array of choices. Those choices, financial planners say, encompass a spectrum of risk that ranges from conservative to wildly speculative.

The industry has added many new categories of funds to the once-bland menu of "growth" funds and "income" funds. Today, there are index funds and international funds, funds that invest in a single stock market sector such as technology, and "strategic" funds that employ such sophisticated trading strategies as hedging.

There is even hourly pricing for investors who want to jump in and out of the market, and short selling, for those who want to bet against a particular stock market group.

"For the average investor, it is a jungle out there," said San Francisco financial planner Lawrence A. Krause. He frets that unsophisticated investors are being lured into risky investmen1948284517impressive past performance.

"These people will panic when the stock market, as it inevitably must, turns against them," Krause said, adding that heavy redemptions by frightened investors will accentuate and prolong a stock market downturn.

Other critics view the proliferation of mutual funds as a sign of unhealthy speculation, although industry spokesmen insist that mutual fund companies are merely providing investors with more choices.

Are they ever. The number of mutual funds has climbed almost as quickly as the Dow Jones industrial average. The total count, including bond and money-market funds, just broke 2,000, up from 1,843 at year-end 1986 and 1,531 at the end of 1985. There were just 426 funds at year-end 1975, according to the Investment Company Institute.

To put those numbers in perspective, only 30 new funds were born in the entire decade of the 1940s, for a grand total in 1950

of 98 mutual funds.

But the recent innovations in the industry involve more than just a

proliferation of investment vehicles. Funds now can be bought and sold with a phone call, eliminating redemption hassles and potentially costly mail delays.

Last July, Fidelity Investments went the industry one better by introducing hourly pricing on its 35 Fidelity Select portfolios, which focus their investments on single market sectors or industries.

"It gives the investor the opportunity to match his transaction to what is actually happening on the stock market floor," Litvack said. "It gives the investor more control."

Other mutual funds are priced just once a day, at the end of trading, so their investors must wait until the end of the day for their buy or sell orders to be executed.

Given today's volatile stock market and huge intraday price swings, hourly pricing can be a valuable feature for the nimble trader who wants to jump in and out of the market.

"In effect," explained Litvack, "we are creating our own stock market."

There are Fidelity Select portfolios that focus on such broad sectors as technology and precious metals and such narrow sectors as computer software, American gold and restaurants.

In February, Fidelity added another first for investors in its eight most popular Select portfolios: the ability to sell a portfolio short.

Shorting involves the sale of borrowed stock by investors who hope to profit by repurchasing the stock at a lower price.

Suppose an investor believes that gold prices are about to drop. The Fidelity short-selling program allows the investor to short Fidelity's precious metals portfolio, which invests in companies that mine gold and other precious metals.

As is the case with individual stocks, people who short mutual funds must initially deposit cash or marketable securities equal to a minimum of 50% of the market value of the shares sold short. Investors may borrow the rest, paying standard margin interest rates.

Perhaps for that reason, perhaps because mutual funds investors tend to be less sophisticated than stock market players, the program has yet to catch fire. Of the 225,000 people who have a total of $3.4 billion invested in the Select portfolios, only about 500 have participated in the short-selling program, according to Litvack.

Another reason the program has been slow to catch on is that investors who feel bearish about an industry are likely to pick what they think is the weakest stock in the group for shorting, rather than shorting the entire group.

Litvack acknowledges that the shorting program is only for swingers. He denies that Fidelity is encouraging speculation among unsophisticated investors. The company, he said, is merely accommodating its customers "as the pool of people who want managed investments has grown to include those with a more aggressive approach."

Sector funds themselves, which also are a relatively recent innovation, tend to be more volatile than more broadly diversified mutual funds. In addition to Fidelity, which dominates the sector-fund business, Vanguard Group offers five sector funds and Financial Programs has nine.

Some sectors, such as health care, attract "buy and hold" investors who see long-term promise in a given industry. Others, like precious metals, experience dramatic fluctuations in investor interest. In the past few months, Fidelity's precious metals fund has seen its assets climb to $660 million from $150 million as inflation has heated up.

Another group of new products for more adventuresome mutual fund investors was recently brought out by Dreyfus Corp. Last September, Dreyfus unveiled a "strategic" stock fund that has been such a hit with investors that the company has added a "strategic aggressive" fund and a "strategic world" portfolio.

"Basically, we feel that there is complexity in the stock market that didn't exist before," said Dreyfus Chairman Howard Stein, citing such examples as program trading, hedging and stock options.

To address that complexity, the strategic funds employ sophisticated hedging techniques to seek better returns. In the first six months of Dreyfus Strategic Investing's existence, the fund posted a total return of 32.85%, compared to a 20% gain for the unmanaged Standard & Poor's 500 index, a common benchmark for performance.

Dreyfus has structured another new offering, the Strategic Aggressive Fund, as a partnership rather than as a mutual fund to allow it to do more short-term trading. By law, only 30% of a mutual fund's capital gains can be taken from positions held less than 90 days.

Said Stein: "The partnership structure should give us a real advantage, because hedging is inherently a short-term investment strategy."

Still, he acknowledges that such investments are not for the faint of heart. "We are definitely taking higher risks for higher gains. All kinds of things can go wrong."

If mutual fund investors opting for some of the exotic new investment vehicles are trying to

beat the market, another growing class of mutual fund investors is trying simply to match the stock market's performance.

They do it by investing in so-called index funds, whose stock holdings mirror the makeup of popular indexes. Vanguard Index Trust is the oldest such fund open to small investors, but other companies are jumping on the bandwagon.

Wells Fargo Bank, for example, allows its individual retirement account customers to invest in a fund that, like Vanguard's, tracks the performance of the S&P; 500.

The rapid growth of index funds stems from the fact that "most mutual fund managers, as is the case with most institutional investors, have been underperforming the popular indices," notes Henry Shilling, vice president of Lipper Analytical Services, a New York firm that tracks mutual fund performance.

Investors are deciding that if they cannot beat the averages, they might as well join them.

"We're seeing a slew of new index funds, and not only for stocks," Shilling adds. Vanguard, he notes, just added a bond index fund. Other firms are offering index funds featuring overseas stocks.

A key attraction of index funds are their low management fees. "There are no stock pickers who have to be paid," Shilling said.

Despite the new popularity of index funds, many mutual fund managers are resisting the trend. "Index funds, by definition, have average performance," a Fidelity spokeswoman said. "We believe investors should strive for better-than-average performance."

Another category of fund that is enjoying a resurgence in popularity is the so-called fully managed fund, Shilling said. Such funds, also known as "asset allocation" funds, allow their managers to pull out of the stock market entirely if conditions turn hostile.

Paine Webber offers such a fund, as do Equitec Financial, Janus and Wells Fargo (for IRAs only). "I recommend them highly for people who don't want to be bothered about deciding when to buy and when to sell," financial planner Krause said.

Finally, for those investors who are leery about the stock market because of its historically high level but think real estate is undervalued, there are several new real estate funds.

Fidelity's fund invests in stocks of companies that are involved in real estate. T. Rowe Price offers a limited partnership and Vanguard has a trust, both of which buy actual properties.

While they are not true mutual funds, they offer the characteristics of funds--such as diversification and the ability to invest small sums.

Vanguard's $100-million income-oriented real estate fund will close to new investors on June 30. The minimum investment is $5,000, or $2,000 for IRAs. Vanguard stresses that the fund is only suitable for long-term investors.

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