(PUB) Investing 2016

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Fund Companies Headed the Wrong Way on Fees The Contrarian | Russel Kinnel

Markets EEM tracks a slightly more diffuse index than IEMG , and it charges nearly 5 times ( 0 . 69% ) for the service. Effectively, BlackRock and the iShares board are asking shareholders of this fund and others in the lineup to subsidize the cheaper core funds. Their fiduciary duty is the same to both groups, but I guess that hasn’t been mentioned. See the table for more examples of pricing disparity at iShares. Oppenheimer and the board overseeing Oppenheimer International Small-Mid Company Fund OSMAX are also out of touch. The fund is a focused portfolio of small- and mid-cap stocks that is prone to extreme performance. Lately that’s been “extreme” in a good way. The fund had a rough 20% loss in 2011 and a middling 2012 (Rezo Kanovich took over in January 2012 ), but it crushed its category three straight years from 2012 through 2015 . That run brought buckets of cash. The fund took in $500 million in 2013 , $700 million in 2014 , and $2 . 8 billion in 2015 (equal to the asset level where the fund started the year). Those inflows inspired Oppenheimer to decide it should have its cake and eat it, too. The flows forced it to change the fund’s name and benchmark from Small Cap to Small-Mid, and it closed the fund to new investors. But with all that money and no need to attract new investors, why not raise fees? Oppenheimer cranked up the fund’s expense ratio to 1 . 43% from 1 . 18% . Back when the fund had just $600 million in assets, it charged 1 . 14% in fees. But apparently this is the only fund with diseconomies of scale, as it needs to charge more with $6 . 8 billion in assets. To put that in dollar terms, it is now paid $97 million per year rather than $7 million. For the record, Oppenheimer says that the broader benchmark necessitated the fee hike. It added one new analyst at the time of the fee hike, giving the fund a total analyst staff of two. So, maybe it is paying that analyst $90 million. For investors, this suggests how important it is to watch their funds’ expenses and keep an eye out for cheaper alternatives as more fund companies com- pete on cost. For fund companies, it’s time to decide if they want to be relegated to the role of niche players or compete with the best. K

October saw another episode of fee wars. BlackRock cut fees at a number of its exchange-traded funds to dirt-cheap levels. IShares Core S&P 500 IVV was cut to 0 . 04% from 0 . 07% , and iShares Core MSCI Emerging Markets ETF IEMG was cut to 0 . 14% from 0 . 16% . Schwab responded by lowering some of its ETF prices to 1 basis point below iShares’. Prudential then cut fees at some actively managed open-end funds. And you may recall that Fidelity cut fees at its open-end and ETF index funds in June. Yes, there’s a powerful trend that’s giving a better deal to investors across an array of funds. As technol- ogy makes investing cheaper, it’s natural for fund companies to share some savings. And of course, the spread of passive investing means you have more low-cost options than ever before.

Our Contrarian Approach I go against the grain to find overlooked funds that may be ready to rally.

Yet, remarkably some fund companies and their fund boards haven’t gotten the memo.

One of them is BlackRock. The same company and board that cut fees for some funds has stubbornly kept others surprisingly high. IShares MSCI Emerging

Examples of Pricing Disparity at iShares

Name

Ticker

Morningstar Category

Expense Ratio (%)

iShares Core MSCI Emerging Markets IEMG

Diversified Emerging Markets

0.18

iShares MSCI Emerging Markets

EEM Diversified Emerging Markets

0.69

iShares Asia/Pacific Dividend

DVYA

Diversified Pacific/Asia

0.49

iShares Core MSCI Pacific

IPAC

Diversified Pacific/Asia

0.11

iShares Core MSCI Europe

IEUR

Europe Stock

0.11

iShares Europe

IEV

Europe Stock

0.60

iShares Core MSCI EAFE

IEFA

Foreign Large Blend

0.12

iShares MSCI EAFE

EFA

Foreign Large Blend

0.33

iShares Core S&P 500

IVV

Large Blend

0.07

iShares S&P 100

OEF

Large Blend

0.20

iShares Core S&P Small-Cap

IJR

Small Blend

0.12

iShares Russell 2000

IWM Small Blend

0.20

Data as of Oct. 31, 2016.