Most managers of tax-exempt, institutional assets have been quietly accumulating mutual fund assets, moving away from the slow-growth business of defined benefit pension fund money management.
The list of firms not generally identified with mutual funds - firms that have quietly started funds or put more effort into marketing existing funds - reads like a "who's who" of pension fund money managers.
Among the institutional money management firms with more than $1 billion in tax-exempt assets in mutual funds as of Jan. 1 are: Pacific Investment Management Co.; State Street Global Advisors; Bankers Trust Co.; J.P. Morgan Investment Management Inc.; Prudential Asset Management Co.; Alliance Capital Management L.P.; Miller, Anderson & Sherrerd; Putnam Cos.; and Scudder, Stevens & Clark (Pensions & Investments, May 16).
Not surprisingly, the fastest route to growth seems to be cross-selling no-load funds to existing separate account clients, or at least sticking with the institutional market.
Still some firms, like New York-based Alliance, have succeeded by selling load funds to retail investors through broker-dealers.
Firms expanding into mutual funds are responding to the declining cash flows in defined benefit plans. They're also hoping to cash in on the robust growth of defined contribution plans, the biggest institutional users of mutual funds. But even those defined benefit plan money managers that are most successful in the mutual fund business - PIMCO, Alliance and State Street Global Advisors - have made few inroads in the defined contribution area.
And, achieving critical mass can be tough.
"This is a major conflict for managers in the U.S. now. Managers brought up on defined benefit are used to a different business, different margins and a different infrastructure," said Ken Hoffman, president of Optima Group, a consultant in Milford, Conn.
A manager of $10 billion or more for institutional clients might have pre-tax profits of 50% to 90% of revenue. In the mutual fund business, the margins are 40% or less, he said.
And, attempting to grow a mutual fund business this late in the game may be an exercise in futility, Mr. Hoffman said.
"If a firm has less than $2.5 billion in current mutual funds and no pre-existing access to a distribution system, they really should look to acquire rather than build," he said.
Like PIMCO, with a $10 million average account size in its flagship $5.5 billion Total Return fund, State Street Global Advisors, Boston, has succeeded largely by selling no-load funds to tax-exempt institutions.
Managers seek niches
Still other institutional managers such as Federated Investors, Pittsburgh, have found a niche selling through banks, Federated Investors, Pittsburgh, or acting as a subadviser to a major mutual fund company like Vanguard, as in the case of firms like Wellington Management Co., Schroder Capital Management International and Barrow, Hanley, Mewhinney & Strauss Inc.
Pension fund subsidiaries such as AMR Investment Services Inc. and GE Investments have also have made quite a dent in the mutual fund arena, and some hire outside managers as subadvisers.
Wrap-fee programs also have helped money managers.
They have "helped broker-dealers become familiar with the firms so they can sell mutual fund products. It's a rub-off effect," said Mary Barneby, president of Regis Retirement Plan Services, a subsidiary of United Asset Management, Boston. Indeed, more wrap-fee managers are launching their own funds, including UAM affiliate NWQ Investment Management Co.
The mutual fund business has grown 15% to 20% per year in assets for the past decade.
"If you do not grow faster than the market growth you will literally disappear," Mr. Hoffman said.
Managers seem to know that.
AMT Capital Services Inc., New York, a distributor and administrator of more than $850 million of institutionally managed mutual funds since late 1992, surveyed 20% of managers in the top tier of institutional firms - those with $5 billion to $50 billion under management - about their involvement in mutual funds in response to declining growth in the defined benefit market.
In the survey, 37.5% said they entered into mutual funds as subadvisers. Only 12.5% were not working in a mutual fund-formatted product in any way.
Among AMT's clients acting as co-managers of a mutual fund are Salomon Brothers Asset Management and Fischer Francis Trees and Watts Inc.
Hard to find opportunities
At the same time, it's getting harder for money managers to find opportunities. Many cut their teeth in the mutual fund business as subadvisers. But because large mutual fund companies increasingly are managing new funds in-house, they have less need for subadvisers. But smaller insurance companies and banks still are seeking talent.
"There's a growing trend for insurance-type institutions to contract outside management. We've benefited from that," said Malcolm Pirnie, president of Harbor Capital Management Co., Boston. The firm, which uses a combination of growth and value stocks, has been approached by four mutual fund companies this year and was just hired by the Touchstone Funds, sponsored by a subsidiary of Western Southern Life Insurance Co., Cincinnati.
Harbor will not run the same type of fund for mutual fund companies. Still, he expects the firm's $240 million in mutual funds to double in the next year.
Firms choosing to market load funds to retail investors or 401(k) plans through broker-dealers and financial advisers find themselves vying for "shelf space" alongside thousands of other funds sold by these intermediaries. Many firms targeting 401(k) clients market their funds through alliances with other service providers.
Because marketing to retail investors is more difficult due to the personnel and administrative start-up costs, intermediaries are the avenues of choice for many money managers.
Charles Schwab & Co., for example, recently launched Schwab Institutional OneSource, a no-transaction fee fund marketplace for pension administrators. And, consultants like SEI Corp. and Frank Russell Cos. sponsor manager-of-managers funds.
But even in networks like those of Schwab or Fidelity, these institutional firms are having a tough time competing with well-known retail funds, said Mr. Hoffman.
UAM builds a business
Among the newer institutional entrants is UAM, which built a pension fund money management empire of $101 billion from 40 firms solely through acquisitions. Now, it's building a mutual fund family from the ground up. The $1.6 billion Regis Fund, established in 1989, pools 26 portfolios managed by 11 UAM affiliates.
"It was set up as an accommodation to our firms, who found that managing smaller institutional separate accounts didn't make sense," said Richard Robie, vice president of UAM.
Three years ago, UAM decided to target the defined contribution market and the Regis fund was the vehicle of choice. Regis Retirement Plan Services has $1.6 billion in mutual fund assets, largely by cross-selling to clients of UAM affiliates.
"We're an acquisition company. We never looked hard at mutual fund companies. I don't think going forward we're planning on changing that, but one never knows," Mr. Robie said.
J.P. Morgan & Co. Inc., which launched a mutual fund family geared to high net-worth individuals in 1982, waited 11 years to launch an institutional fund family. Its JPM Institutional Funds have $1.2 billion in assets from small defined benefit plans, endowments, foundations, corporate cash and, to a lesser degree, defined contribution plans. J.P. Morgan has $15 billion in mutual funds worldwide, including $3 billion in funds for which it is a subadviser.
Like J.P. Morgan, State Street Global Advisors, which runs $134 billion, entered the mutual fund business with a money market fund to serve existing clients. Since 1988, its business has grown to $6.5 billion in the Seven Seas group of 12 funds.
State Street has only $200 million in 401(k) assets. Funds - many of them indexed - were developed in response to client demand.
Gus Fish, principal, said State Street is looking to open about six new funds by year end, including domestic and international and "lifestyle" funds.
Russell Fund Distributors, a subsidiary of Frank Russell, administers and markets the funds to new clients. The funds have a $1,000 minimum.
Margaret Isberg, executive vice president of PIMCO who helped launch its mutual fund group in 1987, said the group now represents more than $9 billion of the firm's $55 billion in assets.
PIMCO's motivation was to keep from having too many separate accounts. In the late '80s, the firm's separate account minimum was $50 million; now, it's $75 million.
"We would argue that less than $20 million to $30 million makes it difficult to achieve adequate (fixed income) diversification in a separate account," she said.