Tuesday, November 20, 2007

Pay for performance?

Today we received the Goldman Sachs Funds annual reports. Transparency is wonderful thing, if anyone pays attention.

Goldman has seven international equity mutual funds. Since the inception of each, none has outperformed their relevant index. The expense ratio on these funds ranges from 1.5% to 1.9%. Approximately $1.5 billion is in these aggregated funds. Goldman has four U.S. equity value funds. Since inception, none has outperformed their relevant index. The expense ratio on these funds ranges from 1.2% to 1.4%. Approximately $8 billion is in these aggregated funds. Goldman has five U.S. equity growth funds. Three have outperformed their relevant index and two have matched their index. The expense ratio ranges from 1.4% to 1.5%. Approximately $2.5 billion is in these funds.

The cumulative result is that with $12 billion under management in mutual funds, Goldman underperforms indexes with approximately $10 billion of that money. That is with funds that have just about the highest expense ratios that can be found in the mutual fund universe, and it is compared to indexes, where funds that match have expense ratios that range from 0.1% to 0.5%. Why would anyone buy these Goldman funds?

Can brokers just sell the magic of the Goldman Sachs name to their retail clients. Did I omit the fact that in addition to the stupendous expense ratios, these are load funds to retail investors, with a maximum up front load of 5.5% with some broker discretion reduce modestly. So it's obvious why someone would sell these funds, but why would someone buy?

Part of the answer to this mystery is likely that in the context of the overall mutual fund business, not many people do. The majority of the assets in the funds must be "legacy", or money invested around 15 years ago when the major funds were initiated, loads were waived, and expense ratios of this level for a premier brand name weren't completely strange. With accumulated capital gains, these investors are for the moment just letting their funds ride. The new activity is with the brokers, and the overall business is a "cash cow", being milked for good returns but not attracting significant investment or marketing. Goldman's primary asset management initiative today is alternative investments, aka hedge funds.

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