‘94 Wasn’t a Good Year, but Investors Stayed On

Without question, 1994 has been a disappointing year for the mutual fund industry and its estimated 40 million investors, but it could have been much worse.

All in all, the fund concept remains alive and well. Investors continue to demonstrate their faith by holding more than $2 trillion in mutual funds. And banks and insurance companies continue to demonstrate their faith by acquiring fund companies as soon as they put themselves on the auction block.

These votes of confidence come despite numerous small embarrassments that could have damaged the fund industry in 1994 but didn’t.

Among the setbacks, a small Denver money market fund stumbled to below the standard price of $1 a share--the first time such a fund had done so.

“Breaking a buck” has been a major worry of industry executives for years, because money market portfolios are the safest places for fund shareholders to go when the stock and bond markets are heading south, yet these portfolios are not federally insured the way bank accounts are.

Derivatives were blamed for the 6-cents-a-share loss sustained by the Community Bankers U.S. Government Money Market Fund of Denver.

The fallout was limited, though, because the portfolio, which eventually closed, served mostly institutional shareholders.

Nevertheless, there’s a good chance at least one such portfolio will drop below $1 a share because of the Orange County bankruptcy filing, predicts IBC/Donoghue, an investment advisory firm in Ashland, Mass. That could produce a more serious ripple effect.

Perhaps fortuitously, only about 27% of mutual fund assets today are in money market portfolios, down from 77% in 1981.

Another worrisome development occurred in January, when a prominent portfolio manager was forced out for ethical reasons. John Kaweske had been the star at the Invesco Funds Group in Denver before being fired for failing to report and gain approval for personal trades.

The implication was that Kaweske could have bought stocks before his funds did--a practice known as front-running. The Investment Company Institute, the Washington-based trade organization for the fund industry, later issued a tough, albeit voluntary, set of personal-investment guidelines for fund managers.

Even the nation’s largest fund group, Fidelity Investments of Boston, had an embarrassing moment in 1994. For one day in June, Fidelity knowingly reported incorrect prices to newspapers for most of its stock and bond funds, an incident that suggested that many fund groups may be making similar “mistakes” now and then.

Fidelity said all investor transactions made that day were priced correctly. Still, the industry prides itself on accurate daily pricing, so the incident was a stumble.

Then the already-weak bond market was shaken by derivatives.

Because of the sharp interest rate increases engineered by the Federal Reserve Board, bonds are headed for an unusually bad finish in 1994. The average taxable bond fund was down 3.9% for the year through Dec. 2, reports IBC/Donoghue, and the average municipal portfolio was off 6.8%.

The Orange County bankruptcy filing the week after did not help matters, especially among California muni bond funds.

But the year’s biggest losses will be posted by a small number of nationally diverse bond funds whose managers speculated with leveraged derivatives. Five such portfolios are likely to suffer setbacks of about 25% or more this year, say the numbers crunched by Lipper Analytical Services of Summit, N.J.

Shareholders can’t really blame their bond fund managers for losses attributable to fluctuating interest rates, which are hard to predict--but they’re fit to be tied when derivatives make the red ink spread.

Still, amid these and other setbacks, most fund investors appear to have stayed the course.

Total fund assets in October, the most recent month for which information is available, came to a record $2.2 trillion. The Investment Company Institute estimates that a record 40 million people have a record 100 million shareholder accounts.

It’s true that sales of bond funds have been weak in 1994, though not drastically so, and sales of stock portfolios have been modestly higher.

The only explanation for this continuing confidence during a tough year is that most shareholders apparently realize that mutual funds still make sense.

Funds remain the easiest, most efficient and convenient way to invest. Low minimum purchases, widespread diversification, switching privileges, quick and simple access to foreign markets, automatic dividend reinvestment, monthly dividends on bond funds, professional management--these are among the many benefits.

And even with this year’s mini scandals, there has been little talk of malicious wrongdoing. The many checks and balances in the business--including the oversight of fund assets by independent custodian banks--greatly limit the possibilities for outright theft.

In short, mutual funds work, and they will continue to grow in popularity and importance in the years--presumably better years--ahead.

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If it seems as if the stock market has been kicking up its heels lately, it might have something to do with the seasons. December is the third-best month for large stocks, posting an average return of 1.71%, says Ibbotson Associates of Chicago.

The summer months of July and August tend to be best of all, with average gains of 2.11% and 1.86%, respectively. After third-place December comes January (up 1.58), June (up 1.31), April (up 1.30), November (up 1.29), February (up 0.59), May (up 0.48), March (up 0.44) and October (up 0.13). The worst, and only negative, month is September, off 0.97% on average.

Ibbotson’s figures track the monthly performance of the large-stock Standard & Poor’s 500 from 1926 through 1993.

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The first open-end mutual fund to focus on South Korean stocks will start accepting investments Jan. 2. The 5%-load Matthews Korea Fund ($5,000 minimum; (800) 789-ASIA) is a collaboration between Daewoo Capital Management of Seoul and Matthews International Capital Management of San Francisco.

The Korean government has gradually increased the allowable foreign ownership of Korean companies to the current 12.5%, says Paul Matthews, whose company is a relative newcomer to mutual funds but is managing $180 million in investment assets.

“The Korean economy has grown faster than any other Asian economy except for China’s over the past 10 years,” says Matthews, who forecasts 8% real growth for 1995.

Yet the value of the nation’s stocks relative to the size of the economy is considerably lower than in the three other “tiger” states of Taiwan, Hong Kong and Singapore, he says.

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Contradicting some earlier surveys, a study conducted for the Consumer Bankers Assn. suggests that most investors do understand that mutual funds sold at banks are not protected by federal insurance.

Only about one in five household decision makers believes that funds purchased at a bank are insured, says Joe Belew, president of the Arlington, Va., group. The survey provides evidence that banks have been complying with guidelines designed to ensure that customers understand the risks associated with mutual funds, Belew says.