Research firm concludes Fidelity lost $2 billion of mutual fund assets to its brokerage business in the first seven months of 1999
Fidelity Investments likes to boast that assets in its online brokerage soared more than 100% in 1999, but it fails to mention that part of the growth came at the expense of its mutual fund business.
North Hampton, N.H.-based Alpha Equity Research concludes that Fidelity lost $2 billion of mutual fund assets to its brokerage business during the first seven months of 1999.
From August through the end of last month, a period in which Fidelity began aggressively promoting its brokerage business, that figure ballooned to $20 billion, says Alpha.
AN INDUSTRY PROBLEM
The trend at the country's biggest mutual fund company underscores a problem for the industry. Net sales of long-term funds declined 36% last year, according to Financial Research Corp. of Boston, because more investors were picking stocks on their own.
For Fidelity, this means battling in a much lower-margin business, but at least it has built a successful online brokerage. It's far better positioned than its peers to keep customers in the fold.
"Clearly, assets are flowing from direct funds to the brokerage side," says Jim Lowell, editor of the Fidelity Investor, an independent newsletter. "But Fidelity is able to also earn its keep because all those assets are staying in house."
Fidelity denies that it's losing ground in its mutual fund business. It says its net sales in 1999 were 11% of the industry total, compared to 6% in 1998. The growth in brokerage assets represents new money, says Tracey Curvey, executive vice president of Fidelity online brokerage.
"It's really a new asset story. We have our customers' mutual fund assets. They are [opening brokerage accounts] with other money at other places," she says.
Ms. Curvey adds the company fears it would lose customers altogether if it didn't have a brokerage.
Not that a shift in assets would cripple Fidelity. The company's total under management jumped 25% to $955.1 billion in 1999. Net sales climbed 31% companywide to $47.8 billion, the largest hike in its history, according to the annual report, which came out last week.
But it's unlikely that Fidelity will ever make as much money selling stocks as it does selling mutual funds. Experts put the profit margin on mutual funds in the range of 30% to 40%, compared to 12% to 20% in the online brokerage industry.
SHIFTING CUSTOMER BASE
"It would take some pretty liberal accounting to make the case that a discount brokerage business can produce enough revenues to offset the loss of revenues on the advisory side of the business," says Geoff Bobroff, a mutual fund consultant in East Greenwich, R.I.
Then there's the message that a shifting customer base sends to the outside world.
"The implication might be that people are losing confidence in Fidelity and preferring to go it alone," says Peter Di Teresa, an analyst at Morningstar Inc., a mutual fund tracker in Chicago.
To say that customers of the world's largest mutual fund company aren't selling at least some of their fund assets to buy stocks is to deny that stocks -- and not mutual funds -- are the new currency.
In a first-ever joint survey released last fall by the Securities Industry Association and the Investment Company Institute, 6% of investors said they sold equity mutual fund shares to make their most recent stock purchase.
Moreover, they report investors had $6.6 trillion in stock assets at the end of last year's third quarter, an increase of 7.48% from year-end 1998.
By comparison, mutual fund assets increased 7.16% to $2.7 trillion during the same period.
"Fidelity is cannibalizing its mutual fund business," says David O'Leary, president of Alpha, in Portsmouth, N.H. "The problem is that once an investor goes from a mutual fund account to a brokerage account, it opens the doors of competition and Fidelity has to work a lot harder to keep the business."
Here's a glimpse of Mr. O'Leary's math:
Figuring that Fidelity typically commands an average 15% share of net inflows into equity mutual funds and that ICI reported net industry inflows of $39.9 billion in January, Fidelity should have taken in $6 billion more than it dished out.
Instead, it reported net equity inflows of $2 billion, a figure that represents a mere 5% market share.
So, where is the missing $4 billion? Not so coincidentally, at least according to Mr. O'Leary, Fidelity reported that online assets climbed $4 billion to $273 billion in January.
"How else can Fidelity explain its fund inflows in January?" says Mr. O'Leary. "They're not going to come out and say the brokerage business is cannibalizing mutual funds because that sends a green light out to everybody who has Fidelity mutual funds that maybe it's time to switch."
Fidelity spokeswoman Anne Crowley dismisses Mr. O'Leary's calculations, denying that any drop in its share of net equity sales in the latter half of 1999 was related to its newly redesigned web trading site.
In the second half of 1998, Fidelity experienced a similar drop in net sales -- thanks to a dip in the stock market in July, she says.
"How can he say that's why it happened now?" she asks. " We've had some degree of market volatility throughout 1999 and there is some degree of seasonality with regard to mutual fund sales that is borne across the industry."
