What's the point of paying a professional to manage your money when you can do just as good a job, if not better, on your own? That was the question Hillsboro, Ore., computer consultant Larry Taylor, 40, and his friends asked themselves three years ago. Sick of sitting on the sidelines of a raging bull market, watching individual stocks skyrocket as their mutual funds crawled along, Taylor's crew decided to take matters into their own hands. Pooling assets, they chose a diversified portfolio of tech, pharmaceutical and manufacturing stocks and have enjoyed 30% annual returns ever since. "We got tired of seeing fund managers getting rich and fees getting paid," says Taylor. "Mutual funds are for people who want to put their money into the market and just forget about it."
But with everyone from bellhops to biologists following every blip in the Dow on cable-TV channels and financial websites, passive investing is starting to become passe. "Everybody's an expert," grumbles a high-ranking executive at one fund company--a reference to the growing legion of e-traders who are sucking money from money managers at a rate that is starting to test their nerves. Sure, the $5.9 trillion fund industry is still chugging along quite nicely. But after a decade of explosive growth, it seems poised for a shakeout, as too many stock funds (about 3,500 at last count) scramble for a slowing money supply.
In the first four months of this year, $52 billion in net new money flowed into stock funds--down a third from 1998's record levels. Moreover, as fund investors chase short-term performance above all, only a select group of the top fund families, with brand names like Vanguard, Janus, Fidelity, Putnam and Alliance, are capturing the bulk of that new cash--and much of it is "automatic" in the form of 401(k) plans. That leaves hundreds of smaller players to fight for the scraps, according to Financial Research Corp. "There's a lot more risk now," says Jack Brennan, chairman of fund giant Vanguard, based in Valley Forge, Pa. "People may be looking for bigger, more seasoned names with a broader array of products. Or the investor may be making a bit of a market call, taking some risk off the table."
In April, always a strong month because of tax refunds and IRA contributions, a net $25 billion flowed into mutual funds, according to the Investment Company Institute. But that's down slightly from last April, and this year income tax refunds were at record levels. And thanks to a 2% across-the-board drop on Wall Street during the month, May is looking like a loser, with just $10 billion flowing in, according to market tracker Trim Tabs.
The thinness of the market--most of the past year's gains can be traced to relatively few stocks--has been tailor-made for the e-trade crowd, who pile into favored stocks at light-speed. It's been a hot-money, risky environment, and these investors have apparently lost respect for the traditional, research-oriented investing that the pros have to offer.