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Fund Times: Fidelity Plans New Annuitylike Offerings

Plus, ETFs galore, mergers, manager departures, and more.

Morningstar Analysts, 05/29/2007

The latest idea from Fidelity Investments comes in the form of a number of Income Replacement Funds, for which the firm is now seeking regulatory approval. This group will consist of 11 funds maturing in two-year increments from 2016 to 2036. So, investors commit principal that they will receive back at a predetermined date based on the fund they choose. Similar to an annuity, the funds offer a monthly dividend that Fidelity pays from earned income and appreciation of underlying assets. Investors will have choices as to how to receive this dividend, but details are unclear at this point.

Fidelity will invest assets committed to the Income Replacement Funds to other mutual funds also managed by the firm, including sector-focused funds, indexed offerings, and fixed-income funds. To help cover monthly payments, bond exposure will be significant. For example, Income Replacement 2018 will hold nearly 60% of assets in fixed-income securities, including a small slice of junk bonds. Expense ratios on these offerings will range from 0.54% to 0.65%, including underlying management fees.

Barclays Launches Newest ETNs
Barclays Global Investors' latest exchange-traded note, iPath CBOE S&P 500 BuyWrite Index ETN, launched this week. Tracking its namesake index, the ETN will mimic the index's returns, less its 0.75% expense ratio. The typical ETF today charges about 0.36%, so in that sense, this ETN is expensive. But for the type of exposure this ETN buys investors--namely, to covered-call options that offer muted exposure to the S&P 500 Index--that fee is less expensive. Investors were previously able to buy similar exposure in closed-end funds, 90% of which charge more than this ETN. A similar closed-end fund, Eaton Vance Tax-Managed Buy-Write Income ETB, goes for 1.10%.

Investors should approach Barclays ETNs with caution. The bank asserts that ETNs will be more tax-efficient than competing alternatives. That's due to a new structure that, in essence, puts Barclays on the hook for guaranteeing that investors' returns will equal those of the ETNs' bogies, less expenses. So, in addition to ETNs' inherent investment risk, investors also take on the credit risk, however small, that Barclays will go bust. Additionally, the IRS has yet to determine if the unique structure of ETNs warrants the tax advantages touted by Barclays. Rather, Barclays' tax experts are only assuming the IRS will view ETN structures favorably.

State Street Arrives at the Bond ETF Party
A slew of fixed-income ETFs is on deck from State Street Global Advisors, to be marketed under the SPDR name. They include four Treasury-focused ETFs of different average maturities, three corporate-bond ETFs of different average maturities, a Treasury Inflation-Protected Securities ETF for inflation protection, and, last but not least, an ETF tracking the Lehman Brothers Aggregate Bond Index. Fees will range from 0.14% to 0.18%--that's more expensive than comparable Vanguard offerings but similar to iShares' bond ETF fees.

While State Street is a bit behind rivals Vanguard and Barclays, it's not that late to the party. The launch will bring the total number of fixed-income ETFs to 34, excluding those focused on currency movements. Of the 25 already on the market, only six have been around since the beginning of 2007. Why the slow start? The advantages of ETFs aren't as pronounced in the fixed-income universe as they are in the equity universe. Depending on the share class and fund, the ETFs may not always be cheaper than their open-end counterparts. Additionally, fixed-income funds' periodic dividends usurp some of the tax advantages of ETFs.

Oppenheimer Plans to Merge Away Technology Fund
Oppenheimer Emerging Technologies
' OETAX days are numbered. Its board approved a merger that will send the technology-sector fund's assets--about $141 million--into large-growth offering Oppenheimer Capital Appreciation OPTFX. The merger is unlikely to throw off Capital Appreciation's technology exposure by a significant amount, as it currently invests about 30% of its $8 billion asset base in the information supersector that includes hardware, software, and telecommunications companies.

Even so, investors who bought Emerging Technologies as a pure technology play will be disappointed by this merger and may want to take assets elsewhere.

Two Marshall Funds Lose Half Their Investment Personnel
Jim Stark, comanager of Marshall Small-Cap Growth MRSCX and Marshall Mid-Cap Growth MRMSX since late 2004, has left for a job at Castle Ark Management. He took one of the team's two analysts with him. Comanager Ken Salmon and one analyst remain. Investors should consider alternative small- and mid-growth options given the team's turnover.

Disclosure: Morningstar licenses its indexes to certain ETF providers, including Barclays Global Investors (BGI) and First Trust, for use in exchange-traded funds. These ETFs are not sponsored, issued, or sold by Morningstar. Morningstar does not make any representation regarding the advisability of investing in ETFs that are based on Morningstar indexes.


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