DFA Bucks the Mutual Fund Flow Trend - What Is So Special?


Global professional services firm, Towers Watson, recently published their list of the Top 500 Asset Managers as of the end of 2014. Luba Nikulina, Global Head of Manager Research, stated in her forward that, “assets managed by the world’s largest 500 fund managers rose by over just 2% in 2014.” Although positive growth has persisted for the fund management industry as a whole, Ms. Nikulina observes that, “growth has slowed dramatically recently. However, headwinds persist not only from markets and the medium-term outlook for the global economy, but also regarding asset management’s perceived value proposition and its general role in society.”

What is the value proposition for asset managers? Theoretically, asset managers can provide a great service to individual investors. Not only do these companies allow investors to tap into the best and brightest minds in our industry, it also allows for the pooling of funds that brings both investment scale and efficiency to an investor’s portfolio. After deciding, with the help of a wealth advisor, what types of financial goals that investors have for themselves, they need to proceed with caution as how to effectively implement that plan.

The last six decades of academic research in the field of financial economics has taught us that ideas like diversification, costs, and discipline all play a crucial role in creating a positive investment experience for individuals. Diversification allows us to exercise risk management within our own tolerances. Costs have been one of the biggest predictors in future accumulated wealth overtime. And the investment process requires a commitment to a long-term thinking as a more narrow short-term focus is usually bound to emotional reactions and a seemingly random occurrence of market volatility, which can be dramatic at times.

The core of successful implementation should be made up of these grandiose ideas. Asset managers provide the bridge between the individual investor and the positive investment experience. The pooling of assets allows for a more cost-effective approach to increasing diversification and keeping costs low. How many individual investors have tried buying all 500 stocks within the S&P 500 on their own? After all, the commissions involved in initially buying those individual stocks and then the commissions involved in maintaining those positions with new inflows and outflows could be astronomical. How about just buying the Vanguard S&P 500 Index for one $25 transaction fee and an ongoing AUM fee of 0.05% per year? This is a significant benefit that asset managers have brought to the marketplace. Within some asset managers, the long-term discipline is built into the investment process. Index funds, in particular, maintain their holdings, on average, over many decades. For example, the Vanguard 500 Index (VFIAX) currently has an annual turnover of 2.7%, indicating an average holding period of 37 years. They have clearly stated within their fund that they implement their strategy with a very long-term focus in mind.

Sticking with Ms. Nikulina’s premise that the recent slowdown in the growth of assets by the largest 500 managers in the world is linked to their perceived value proposition and overall role in society, it would seem plausible to conclude that any asset manager that is currently bucking the trend of slowed growth has a very clear value proposition that they have delivered to investors. For example, among the top 5 asset mangers in terms of growth of assets from 2009-2014, Dimensional Fund Advisors (DFA) ranks number 4. Over the six year period, DFA’s assets under management has grown over 125%, taking them from the 90th largest asset manager as of 2009 to 49th as of 2014. This has outpaced one of their largest competitors, Vanguard, who has seen just over 100% growth in their assets under management over the same period. This is still fantastic, as many investors have discovered the merits of passive investing. But given that many still like to equate Vanguard and Dimensional in terms of strategy, why does DFA still standout?

While it may seem plausible to postulate a successful marketing strategy as a good reason, it is important to note that DFA does not market their strategies to the public. Their successful business model has focused on partnering with independent investment advisors who believe in their strategy to its core. We have written before on why IFA prefers DFA as an asset manager here, and many advisors share in the same approach with their own practices. So what may be the answer if we cannot point directly to marketing?

Their value proposition has been the successful implementation of ideas that started in the halls of academia with the sole purpose of serving their investors. Holding scientific research and process in the highest regard, understanding the frictions that exist when implementing a successful strategy (cost, taxes, trading, etc.), having the leading academic minds on their board of directors, and partnering with well-educated professionals to help control for dramatic fund flows and deliver the benefits of their strategy has all played into this value proposition. In terms of empirical support, we have information on our website on how this value proposition has translated into hard benefits for investors in Step 11 of our 12-Step Recovery Program for Active Investors.

An asset manager’s role in society should be to provide a positive investment experience for the end client. Not greed, fame, or any other personal venture. A successful investment experience is based on bridging the gap between an investor’s personal financial plan and implementing the ideas of diversification, cost-management, and long-term discipline. DFA’s success in this endeavor can be encapsulated in their growth compared to their peers. But there is still more work to be done. Until these benefits have reached the vast majority of individual investors in the world there will not be any significant satisfaction.