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Fund Managers: Value-Adding Experts or Mere Commodities?

By Chet Currier
Bloomberg News
Sunday, April 17, 2005; Page F04

One of the worst things you can be told in modern economic life is that your job has become "commoditized."

All the skill and experience you can muster as you show up for work every day adds no extra commercial value. You are like a light bulb, indistinguishable from your fellows -- and replaceable in an instant by the person in the cubicle next to you or the competitor across the street.

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In today's world, the threat of getting tagged with the commodity label extends far beyond workers in assembly-line jobs. Consider the lofty mutual fund manager, paid a six- or seven-figure salary plus bonus to pick stocks and other investments.

"In the long run, the record is clear: Equity mutual funds are commodities that are differentiated largely by their costs," declares John C. Bogle, retired founder and chairman of the Vanguard Group and an active-as-ever industry critic.

"After all, with fund managers competing among themselves in selecting stocks, aggregate equity fund returns must inevitably parallel those of the equity market itself and thus fall short of those returns by the amount of their management, marketing and turnover costs," Bogle says in a recent article for the Financial Analysts Journal.

This is not a new contention. It has been put forward repeatedly in recent times by index-fund advocates including Bogle, as well as by others who set up automated investment portfolios on the Internet.

The question is, is the charge correct? An argument that says yes is the rise of index funds, which Bogle says have grown from nothing in 1975 to one-seventh of all stock fund assets, capturing one of every three new dollars flowing into stock funds since the turn of the millennium.

An argument that says no is the continued enthusiastic support Vanguard and its investors, like all but a few other fund companies, continue to show for actively managed funds. Look at stars of the Vanguard galaxy such as the Vanguard Wellington, Vanguard Windsor and Vanguard Health Care funds, each boasting assets of more than $20 billion on the strength of a long-established reputation for expert active management.

In one basic sense, the criticism that active managers fail as a group to beat the market is specious. Of course the average fund manager is no better than average -- the same goes for dentists, stonemasons, tennis players or any other group of people you can name.

With fund managers, unlike most other groups, average market performance can be readily measured and packaged as a product. Also, by the perverse nature of markets, you can't rely on past investment performance as confidently as you can, say, with a dentist whose steady hand you know and trust.

If you are like most people, you look for something better than average in dentistry, stonemasonry and any other service you consume. For me, that habit carries over into picking mutual funds. The mind rebels against the notion of settling for run of the mill.

Some of this may be plain old sentimentality. In contests between man and machine -- say, a chess master taking on a computer -- I always favor the human being.

Still, personal experience attests that investing is much more than a robotic exercise. It's an art as much as a science, with many niceties such as risk management that resist easy incorporation into an index fund.

Whichever side of the debate you take, the charge of "commoditization" has been put on the docket, and for fund investors that is probably all to the good.

To try to avoid being found guilty, fund managers must perform at their absolute best. Brokers and financial planners, similarly, are pressed every day to provide top-level service, not just pick names off a list of five-star funds.

With critics like Bogle hounding them, many "financial services providers," as they like to style themselves, will also have to get better at marketing in its truest sense -- at telling the world what specific added value they offer.

They can't afford the alternative -- to be perceived as nothing more than interchangeable commodities.

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