Share this story
Close X
Switch to Desktop Site

Mutual funds hopping as shareholders switch for greatest returns

The people working the telephones at many big mutual fund groups are keeping extra busy these days. In addition to the usual business of taking orders from new clients, they're hearing from more people who want to ''switch.''

Whether it's called ''switching,'' ''investment timing,'' or ''the exchange privilege,'' switching all or a portion of an investment within a mutual fund family is becoming an increasingly popular option for investors.

About these ads

The practice first started about 1973, says Jon Erdner, a vice-president of Investment Timing Service in Pittsburgh. ''The funds found they were up against a lot of mass liquidations, due to poor market conditions,'' he says. ''So they had to make their investments more flexible and developed money market funds to keep investors from leaving the family because they couldn't protect their investments.'' Consequently, he adds, switching made it possible to achieve that protection by allowing investors to move rapidly and easily from higher-risk equities to low-risk money market funds. The other basic reason people switch is that their financial objectives change.

But it wasn't until recently that many people seized the opportunity. Spurred by the bull market and the tax-season rush for IRAs, investors are getting wise to the many alternatives to money market funds, and they're finding out how easy it is to move in and out of the various funds in a group - once they know the way.

Knowing one's financial objectives is a key to effective switching. Also, says Jay DeMartine, product manager for stock and bond funds at Fidelity, ''There's no substitute for learning a little about investment.''

Because market conditions and interest rates change, he adds, investors need to watch these and make adjustments, which means making an occasional exchange. Some people, Mr. DeMartine says, look more for income than growth and like to respond to fluctuations in the stock market and interest rates. ''If interest rates are very high, they tend to capitalize on the money market funds,'' he says. ''If those rates are down, some people switch to the more fixed-income bond funds.''

Another reason an investor needs to know his financial goals, if he wants to do the exchanging on his own, is the kind of service he gets from the big fund companies. In most of the firms - such as Fidelity, Scudder, IDS, T.Rowe Price, and Vanguard - once an account is opened, customers can use a toll-free number to call one of the representatives to make an exchange. The exchange is free, with a few exceptions, such as when the client switches into one of the company's ''load'' funds that charge a percentage of the dollar value of the shares being switched as a sales fee, and when the client wants a same-day switch, in which case some fund families charge a $5 fee.

Various fund groups allow differing numbers of switches a year, and some don't have a set policy (such as Scudder). Vanguard allows six annually, T. Rowe Price allows one exchange a quarter.

(Many financial planners advise against switching too often - frequently defined as more than once a year. Exchanging too often can result in the law of diminishing returns, or ''whiplash,'' as some money managers call it. Frequent switching can also be a problem if the portfolio is not tax-exempt, because the investor has to keep close track of short- and long-term capital gains.)

About these ads

The licensed representatives at the other end of the phone line do more than take exchange orders. They will also advise the investor as to what fund would be the best to switch into, given the client's financial objectives and willingness to handle risk.

In many cases, says William F. Hostler, vice-president of individual marketing at Vanguard, investors know their financial goals but they don't know how to achieve them. By describing in detail the various options the firm offers an investor, a telephone representative helps customers determine what they're really looking for. Any hard-sell approach really doesn't work for these funds. ''Our phone representatives aren't going to come on strong and say 'buy this,' '' Mr. Hostler says, adding that Vanguard sometimes gets 3,000 calls a day. ''An easy day for us is 2,400 calls,'' he says.

But that's as far as most of the companies will go with advice - a description of what's available that suits a particular investor's needs. The investor who decides to stick with that limited service should have a good understanding of and a steady eye on the stock market and the economy, many financial planners say.

There are alternatives: (1) timing services, which will watch the market and do the switching for you, and (2) switching newsletters, which watch the market and advise you on when to switch and what to switch into. To get into timing services, the investor signs over limited power of attorney and pays the common fee of about 2 percent of assets (portfolio assets above $1 million can ''trend down'' to around half a percent). One timing service is Schabacker Investment Management, which also has a telephone advisory service costing $100 a year and which publishes several weekly and monthly switch advisory newsletters, which range from $45 to $105 a year. The newsletters advise investors on when to switch and what to switch into, given their financial goals.

''I'm moving in the direction of the less switches the better,'' says James M. Schabacker, president of the Gaithersburg, Md., firm. ''About one every 18 months seems to be the best.'' He adds that frequent switching makes a lot of paper work and expense for the investor in terms of man-hours and taxes (you're subject to paying short-term capital gains for switching from a fund held less than a year).

His favorite plan, Mr. Schabacker says, is ''what I call 'formula timing.' If our forecaster's very bullish, the plan goes 100 percent equities, zero cash. We sort of shuttle between equities and cash in increments of 25 percent of the investment. We stick with very high-growth equities, but I'll go to the sidelines for cash if it's time to use caution. We use the large groups - Fidelity, Value Line, T.Rowe Price, Vanguard. Our record shows about 22 percent annualized (growth) over the last six or seven years.''

Not all timing services have that kind of record, financial planners note, and not all of them switch that seldom, which the concensus says is the best policy. As for newsletters, they provide a different kind of service. For example, unlike Schabacker's letters, the No-Load Fund X newsletter, published in San Francisco by Dal Investment Company, simply stars the top-performing funds each month - the old, current, and possibly emerging winners.

Follow Stories Like This
Get the Monitor stories you care about delivered to your inbox.