Fund Choices for Investors Multiply

AT the unpretentious offices of the Vanguard Group in Valley Forge, Pa., company officials are putting final touches on two new funds - index funds for overseas stocks and real estate investment trusts.

They will join a roster of some 92 investment portfolios - having a combined value of more than $195 billion in assets - managed by Vanguard, the No. 2 mutual-fund company in assets under management.

Does the investment world really need two more mutual funds? Whatever the answer, the number has been soaring.

"Back in 1981 we had the only single-state municipal bond fund, the New York Municipal Bond Fund," says Lance Brofman, chief portfolio strategist for Fundamental funds in New York. "Now there are over 200 single-state mutual-fund products," offering freedom from state as well as federal taxes.

"We've gone from having 100 percent of the market down to less than 1/2 of 1 percent. But it's a free market, and competition will continue," he notes.

Mr. Brofman says economies of scale - having fewer firms run most funds - "may make a lot of sense." But most fund companies "want to be their own players."

There are already 2,222 stock funds, 2,576 bond and fixed-income funds, plus another 1,000 money-market funds, according to the Investment Company Institute (ICI), the industry trade group in Washington. In fact, there are now twice as many mutual funds - with a value of around $2.8 trillion - as stocks listed on the New York Stock Exchange.

The reason for the huge expansion of funds is summed up in a single word: demand. Funds continue to roll off the assembly lines precisely because investors want more avenues in which to put their money. Investors are pouring money into mutual funds - $67.4 billion just into stock funds during the first quarter of this year. And while inflow levels appear to be easing somewhat, there is as yet no sign that investors are pulling back from their love affair with mutual funds.

Barring any flat-out market downturn, why should they? During the first quarter, the average domestic stock fund shot up a solid 5.59 percent, according to Morningstar Inc. in Chicago. Money-market funds also posted gains, 4.8 percent annualized yield, according to IBC/Donoghue's Money Fund Report.

Number of Funds Skyrockets Along With Investor Demand

Among mutual funds, only bond funds sagged, with an average decline of 0.90 percent according to Lipper Analytical Services, Inc. And some strategists, such as Brofman of Fundamental, believe that bond funds may be poised to do well relative to stocks, as higher interest rates push up their income yield.

Assets in mutual funds, and the number of Americans participating as investors, will continue to grow for several reasons, says Matthew Fink, president of the ICI:

*Demographics: Baby boomers now represent the largest population cohort in the United States - encompassing 76 million to 78 million people. And they are now turning 50 and investing their money. Their extra dollars will increasingly go into mutual funds, Mr. Fink believes.

*More companies offer defined-contribution retirement savings plans, where companies will match an employee's contributions to an individual, tax-deferred savings account. Mutual funds are usually investment options in these 401(k) and 403(b) plans.

*Inheritances are passing from older investors - many of whom valued individual stock ownership - to younger heirs who tend to favor mutual funds.

*Individual investors appreciate the diversification and relative safety of mutual funds, Fink says.

Consolidation ahead?

Despite the proliferation of funds, could the industry become too big, too concentrated, too dominated by a few giant companies?

Some experts say consolidation is inescapable, given the advantages of economies of scale. A report from investment bank Goldman Sachs reached this conclusion last year. Factors propelling takeovers and buyouts include bigger advertising budgets, rising spending on new technology, and growing payroll costs (with many prominent fund managers now TV and media stars, and thus, commanding ever larger salaries).

One result of rising costs within the industry has been a steady increase in fees

Recent mergers

There have been several highly publicized mergers in the past few years - including the linkup between the Franklin and Templeton fund families and the takeover of Benham funds by Twentieth Century Funds.

Still, the trend is toward diversification and decentralization, Fink insists. ICI data, for example, show that the assets of the top 20 fund complexes (families or clusters of funds) made up only 64 percent of all industry assets in mid-1995, compared with 73 percent of all assets in 1984.

The mutual-fund industry is gaining clout as a part of the overall financial system (see story, page B8), but mutual funds are far from being the only investments on the block. They held only about 13 percent of all corporate stocks in 1995, compared with 51 percent held by private households, 16 percent held by pension funds, 8 percent held by state and local governments, and 12 percent held by insurance companies, private trusts, and others, Federal Reserve data say.

Looking ahead, the industry consensus holds that US mutual-fund investors remain committed for the long haul. Even the market crash of October 1987 failed to ignite stock-fund liquidations, Fink notes. Recent market gyrations should not substantially alter that outlook, Fink believes. Time will tell if he is right.