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Demographics Favor Fund Company Shares

Asset managers have rebounded sharply from recent lows. Boom in 401(k) saving could fuel long-term growth.

November 10, 1998|PAUL J. LIM | TIMES STAFF WRITER

Shares of publicly traded mutual fund companies have been among the biggest beneficiaries of the '90s bull market, as fund assets have swelled. But are the glory days over for these stocks?

Wall Street's late-summer stumble, and steep declines in foreign-stock and high-yield bond markets, slammed most fund companies' shares. And while the sector has rebounded, many of the stocks remain well below their 1998 peaks.

Several firms, especially those that specialize in foreign and emerging-market stock funds, have reported disappointing third-quarter profits, as their assets under management plunged in light of stock market losses and investor redemptions.

Franklin Resources' international assets, for instance, have fallen about 20% (to $84.8 billion) since this time last year, according to Morgan Stanley Dean Witter.

Last month, San Mateo, Calif.-based Franklin, which also manages the Templeton family of foreign and emerging-market funds, reported quarterly earnings of $112.3 million, or 44 cents a share. That was down from 50 cents a share in the third quarter of 1997, and missed analysts' estimates by 4 cents.

Franklin shares, at $36.94 on Monday, are off 36% from their 1998 peak.

Pioneer Group, which manages several international stock funds, hasn't officially reported its third-quarter numbers. But the Boston-based money management firm said it is likely to report a loss of 55 to 65 cents a share.

In fact, the few fund companies that did well during the quarter tended to be bond specialists--such as Newport Beach-based Pimco Advisors, with $226 billion in assets, and Chicago-based John Nuveen--as cautious investors have plowed money into more conservative fixed-income investments.

From the fund companies' standpoint, "we've seen a migration away from high-margin international funds toward low-margin fixed-income funds during the quarter," said Morgan Stanley analyst Henry McVey.

But does the third-quarter turmoil diminish the long-term prospects for fund stocks?

To a large extent, analysts say no. Indeed, Merrill Lynch analyst Mark Constant describes the asset management sector as "perhaps the most attractive sector of the financial services industry."

Added Barrington Research Associates analyst Alexander Paris Jr.: "My favorable outlook and optimism about this sector has not changed at all."

Why still so much optimism?

Near-term, the outlook for the fund sector certainly looks a whole lot brighter than it did even two months ago. Since blue-chip stocks bottomed on Aug. 31, the benchmark Standard & Poor's 500-stock index has roared back and is now up more than 16% for the year.

The stock market's rebound has, in turn, pulled many depressed fund stocks up sharply.

Shares of discount brokerage Charles Schwab, which operates one of the nation's largest mutual fund supermarkets, are up 77% in the last 2 1/2 months. Boston-based Affiliated Managers Group, which owns such fund brand names as Tweedy Browne and First Quadrant, has seen its stock soar 54% since Aug. 31, after diving more than 50% in just six weeks.

Noted Paris: "Shares of asset managers are bull market stocks."

That's because investors naturally expect investment management companies' assets to grow in a stock bull market, translating into higher earnings because the bulk of the companies' revenues are derived from management fees charged as a percentage of assets.

Longer-term, the sector is expected to benefit from positive demographic trends, analysts say. The most obvious of those: As baby boomers get closer to retirement age, they are putting more and more money away, in particular through company-sponsored 401(k) plans.

Fund companies with "viable 401(k) businesses are enjoying what amounts to an annuitized stream of assets contributed every quarter or biweekly," said John O'Shea of Investment Counseling Inc., a West Conshohocken, Pa.-based consulting firm that works with money managers.

Still, analysts warn that some fund companies' earnings will take longer to rebound than just a quarter or two.

For one thing, "there will still be reticence on the part of investors to leap back into some of the more aggressive segments, like emerging markets," where fund companies typically earn higher management fees, O'Shea noted.

What's more, while investors have been shifting back into domestic stock funds in recent weeks, net new cash inflows are still well below pre-summer levels.

In September, stock funds attracted a net $6.5 billion in new money, according to the Investment Company Institute. By comparison, investors plowed a net $25.3 billion into the funds in September 1997.

For October, stock fund inflows were estimated at $9.1 billion, according to Trimtabs.com. That would be 54% less than October 1997 inflows.

Analysts who view the fund stocks favorably figure cash flows won't stay depressed forever. Moreover, they note that not all companies are completely at the mercy of short-term cash flows.

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