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By Christine Benz and Kevin McDevitt, CFA | 04-18-2012 11:00 AM

What's Driving Investors Away From Actively Managed Funds?

A desire for more control over asset allocation, disappointment with performance, and a sharp focus on fees may be behind the shift toward passive equity funds.

Christine Benz: I'm Christine Benz for Morningstar.

Stocks surged in the first quarter of 2012, but investors were buying bond funds instead.

Joining me to discuss the latest trends in mutual fund inflows and outflows is Kevin McDevitt; he is editorial director with Morningstar.

Kevin, thank you so much for joining me.

Kevin McDevitt: Christine, thanks for having me.

Benz: Kevin, we have just been through a quarter in which investors have shown a strong preference for bond investments over stock funds; let's talk about some of the categories within the bond fund universe that have been the biggest beneficiaries of new investor cash.

McDevitt: ... It's really been a combination of some actively managed funds and some passively managed funds, but the runaway winner has really been DoubleLine Total Return, which we have been discussing for quite some time, Jeffrey Gundlach's fund. And it has taken in about $6.4 billion so far for the year-to-date, and $15.4 billion over the past 12 months. And that reflects ... what's been happening in the category as well. The intermediate-term category has been by far the most popular over the past year-to-date and also over the last 12 months.

The runner-up there would be high-yield bond funds. They have also been quite popular on both the ETF side and on the open-end side, taking in about $21.5 billion year to date. To put that in perspective, [inflows have been] about $42 billion for intermediate-term bond funds.

So, those have both been the runaway winners on the fixed-income side and overall.

Benz: So, it seems like investors are kind of betting on opposite sides of the coin there, right? Because the intermediate-term funds are generally pretty high quality whereas high yield, it seems like [investors] would be banking on an economic recovery, which could actually crunch some of the high-quality funds if inflation and interest rates tick up?

McDevitt: That's been one of the dichotomies or just one of the riddles of the last three years. High-yield bond funds got crushed terribly during the credit crisis. And yet investors seemed to have really warmed to them and have been much more willing to dive back into high yield than perhaps some other risk-oriented categories, especially on the equity side. But I think certainly with rates at zero and with a need for income--with an aging population, more investors looking for income--in a sense, you can see the argument and the interest in going to high-yield bond funds.

Benz: And that DoubleLine fund for sure has one of the higher yields in the intermediate-term bond category, too.

McDevitt: It does, and its returns have been stellar so far. So, again, you can see, on the face of it, you can see the attraction.

Benz: So, Kevin, let's switch over to equity funds and discuss what's been going on there. One thing that you all noted in the most recent report where you discussed fund flows was that ... large-cap actively managed equity funds had their 11th straight quarter of outflows. What do you think is driving investors out of actively managed products, and to some extent, into passively managed products or out of the asset class altogether?

McDevitt: Well, it's good to make a few--as you did there--to make a few distinctions. It's not necessarily that there has been as much of a move out of equity funds as some might imagine. There has been certainly a shift toward fixed income over the last three years, and that period you talk about, over the last 12 quarters, really since the market bottomed in March 2009.

You've really had a tremendous rally in the equity market, but you haven't really seen that much money going back into equities. It has been more fixed income. But the biggest loser in all this, as you mentioned, has been actively managed equity funds.

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