American Funds clamps down to improve bond fund
BOSTON May 9 (Reuters) - American Funds succeeded for decades with a simple strategy of dividing its giant funds among multiple managers who each operated independently.
But the model broke down amid the recent financial crisis, particularly on the fixed income side, prompting a major overhaul and the beginning of a move away from fully independent co-managers on the bond side.
"I'm not sure if we've changed or the world has changed," said Dexter Williams, senior vice president of fixed income at the Los Angeles-based fund firm, one of the oldest U.S. mutual fund families.
Under a new strategy, American's flagship fixed income fund, the $33 billion Bond Fund of America, will now have several bond sector specialists who will either outright dictate allocations for the entire fund or "signal" to other team members about holdings in their area of expertise, Williams said. The fund will also be much less heavily invested in corporate bonds in favor of a mix including more government and mortgage-backed securities.
Noting that the fund is used in many 401(k) and college savings plans as a core bond holding, Williams said the changes were designed to reduce volatility caused by big moves in the corporate credit sector.
Fund analysts are taking a "wait and see" approach. "We are certainly watching it closely," said Jeremy Brothers, a mutual fund analyst at brokerage Raymond James and Associates. "It's a different fund than it was in 2006 and 2007 leading up to the financial crisis."
The changes come after the fund's disastrous 2008, when it dropped 12.2 percent, which was followed by another three years of mediocre performance. The fund trailed 91 percent of similar funds over the past five years, according to investment researcher Morningstar.
While U.S. investors generally have been pouring money into bond funds, including $124 billion last year and $241 billion in 2010, they have been exiting Bond Fund of America. Investors yanked a net $3.5 billion last year and $3.3 billion in 2010, according to fund researcher Lipper, a unit of Thomson Reuters.
The lack of attractive bond funds, along with poor performance on the equity side and the increasing popularity of index funds, has crushed overall flows at American.
A leader in inflows for much of the past decade, American suffered $83 billion of net outflow excluding money market funds for the year ended March 31, by far the most of any U.S. fund family, according to Morningstar. Fidelity Investments was second with $25 billion of outflow, excluding money market funds.
Some of American's smaller bond funds, such as in the municipal sector, have posted strong performance and inflows but not enough to overcome distaste for the flagship, American's Williams said. "They were overwhelmed by the largest fund on our fixed income side," he said.
Still, with over $1 trillion of fund assets, American ranked as the third-largest manager of U.S. mutual funds. Only Vanguard Group and Fidelity were larger as of March 31, according to industry trade group the Investment Company Institute.
In the past, American has divided its large funds typically among six to 12 managers, or "portfolio counselors" as they are called at the firm, and granted each significant autonomy over a designated amount of money. American does not disclose the amount each manager oversees.
On the Bond Fund of America, newly appointed co-managers Wesley Phoa, a mortgage-backed securities specialist, Mark Brett, a global bond and currency expert, and Andrew Barth, a corporate bond expert, are expected to "signal" to other co-managers how to allocate money to those sectors.
In another new twist, Barth and Phoa will run their segments jointly, deciding on allocations among Treasuries, corporates and mortgage-backed bonds. "That's a signal to all the other counselors," Williams said.
Also, David Daigle, who joined the fund last year, has been newly named as the designated high yield bond counselor and will make almost all decisions regarding the entire fund's picks in that sector, Williams said.
The changes are long overdue, according to financial adviser Nicholas Olesen at the Philadelphia Group, in King of Prussia, Pennsylvania. Although he had recommended the fund to some clients for retirement accounts in the past, Olesen moved them away in 2007 and 2008.
Now American ought to make similar stricter assignments at more of its funds, Olesen said. "The markets all have very different sectors within each asset class and the committee-team approach spreads everyone out too thin," he said.
But some advisers worry that the new strategy may not fit with American's traditional strength in fundamental, bottom-up research. "It tends to require top-down analysis and a macro approach that is foreign to the American Funds' ethos," said Ray Benton, an adviser at Lincoln Financial Advisors in Denver.
Improvements cannot come soon enough for American. So far this year, Bond Fund of America has gained 2.77 percent, lagging 56 percent of similar funds, according to Morningstar.