Historically, the asset management industry has been merely an easy way for money managers to get rich at your expense.
Even today, 401(k) fees continue to rob us of $60 billion each year -- forcing us to work longer and save more.
Former Sen. Peter Fitzgerald declared the mutual fund industry "the world's largest skimming operation." (A completely legal one, at that.) And Vanguard founder John Bogle argues that "beating the stock and bond markets is a zero-sum game before the intermediation costs, and a loser's game thereafter."
The High Price of Letting a Pro Manage Your Dough
Since the 1970s, Bogle has been calling out Wall Street for its rampant fee transgressions, specifically the costs associated with investing in actively managed mutual funds. These fees pad fund companies' coffers and rob fund clients of higher returns.
Early on, Bogle became a vocal champion of index investing -- pointing out the superior returns individual investors could get by buying into low-cost funds that mimic the movements of a chosen stock market index.
How much better off are consumers who steer their money away from high-fee funds? Consider one of Bogle's examples: After 20 years of taxes, fees, and growth in a typical mutual fund, $1 is worth just $1.70 in real terms. But $1 in a low-cost index fund is worth $4.50. Looked at from another angle, each 1% charged in fees over the course of a career erases more than 15 years of portfolio gains, according to The Wall Street Journal.
And yet for decades, investors -- whether because of intimidation, indifference, or ignorance -- were blind to this, and went along with fund companies' policies.
But today's investors have caught on and are demanding lower fees. It's a move that's forcing asset managers to continue lowering prices to attract assets.
Wall Street is Losing the Staring Contest
On Sept. 10, BlackRock lowered fees on its iShares exchange-traded funds. A week later, Schwab lowered its fees.
On Oct. 2, Vanguard followed suit, lowering its even further. And on Oct. 15, BlackRock announced it would lower fees on its iShares funds yet once more.
Part of this is corporate competition. You see, Vanguard -- well-known as the low-cost leader -- "attracted more money from investors in the first nine months of 2012 than ... in any full calendar year in its 38-year history," according to Bloomberg. With nearly $2 trillion under management, Vanguard has proven extremely popular due to its low-cost strategy, something its competitors have undoubtedly noticed.
Of course, the fees can only be cut so much. It's doubtful asset management companies would drop fees to zero -- except perhaps as a short-term gimmick to attract assets.
And yet, however you slice it, investors are the clear winners in this battle. As costs continue to fall, they lose less money in fees.
It also makes passive investment vehicles (ETFs and index funds) much more attractive than actively managed mutual funds (which often have fees well over 1% annually).
And this means that actively managed mutual funds may soon be forced to drastically cut their fees just to remain competitive in the marketplace -- a move that would return additional billions of dollars to investors' pockets every year.
It's nice to see Main Street dealt a winning hand every once in a while.
This article was written by Motley Fool analyst Adam J. Wiederman. Click here to read Adam's free report on tips to maximize your Social Security payout.
Asset Management Fees: Main Street Investors Force Big Changes on Wall Street
Air Lease (AL) has been publicly traded for less than two years, but that understates the experience of the Los Angeles aircraft leasing firm's key players. Launched by Steven Udvar-Hazy and John Plueger -- the dynamic duo who helped turn International Lease Finance Corp. into the industry behemoth in the 1980s -- Air Lease already owns 137 planes and has signed agreements to lease them to 65 international airlines. Air Lease not only leases planes, it helps broker and manage them. Thus as U.S. airlines upgrade to more fuel-efficient planes, the company can broker their older models to airlines in developing countries, where rising middle-class populations are fueling growth in air travel, says Matt Berler, chief executive of Osterweis Capital Management.
Oddly enough, the financial crisis in Europe has actually been good for Air Lease because fewer lenders are competing to finance planes, says Berler. "We don't think the market understands the magnitude of the growth that's now locked into the company," he says.
On the surface, Air Lease's stock looks pricey. At $21.02, the shares sell for 18 times estimated 2012 earnings of $1.20 per share. But analysts see profits jumping a whopping 43% next year, to $1.71 per share, and they project earnings growth of more than 40% annually over the next three to five years. If Air Lease lives up to those lofty expectations, the stock is a steal today.
Apple (AAPL) is not exactly a newcomer to this listing. It led Kiplinger's list of top stocks back in January 2011, when its share price was a mere $330 -- less than half of today's price of $689.88.
But what's remarkable about Apple is that its growth has kept up with its stock price. Despite the stock's relentless climb, it sells for 13 times estimated earnings of $53.22 for the fiscal year that ends in September 2013. For a company poised to generate roughly 20% earnings growth in the fiscal year that ends Sept. 30, Apple shares still appear to be bargain-priced.
And the stock has a number of additional catalysts. The company just won a patent suit against archrival Samsung that is likely to force Apple's key competitors to revamp their handsets. The verdict couldn't have come at a more opportune time. Millions of Apple loyalists are ready to upgrade to Apple's new iPhone, introduced on Sept. 12. Some analysts speculated that Apple would sell 10 million of the new phones in September. Moreover, Apple has barely cracked China's market, which is likely to generate additional profit growth for years to come.
Of course, with estimated sales of $155 billion in the current fiscal year, Apple can't maintain its astronomical growth rate forever. But even if the Cupertino, Calif., company can simply achieve the 24% earnings-growth pace that analysts are expecting over the next three to five years, you'll want to have the stock in your portfolio for a long time to come.
Boeing (BA) benefits from some of the same factors fueling growth at Air Lease. Boeing, which along with Europe's Airbus Industries dominates the market for large commercial jetliners, saw revenues rise 25% over the first half of 2012, to $20 billion, and it has a backlog of orders worth $374 billion. The backlog, which includes orders for 824 new Dreamliner 787 models, is roughly six times annual revenues.
To be sure, Boeing's space system and financing divisions haven't performed as well, but the soaring commercial aircraft division is pushing up profits. Analysts think the Chicago-based company will earn $4.72 per share this year and $5.63 next year -- a tidy 19% increase.
Despite Europe's woes, Price manager Finn thinks Boeing will become a cash cow over the next decade (it will take seven to eight years to work off the backlog). Even if a deep global recession caused some customers to cancel, it's hard to find a scenario in which the company doesn't deliver steadily rising profits over the next five years.
Considering Boeing's growth prospects, its stock looks like a good value. At $70.03, the shares sell for 15 times estimated 2012 earnings and yield 2.5%.
The U.S. theater market may be relatively moribund, but growth prospects are good in emerging markets, where more and more people are entering the middle class and heading to the movies for entertainment. Cinemark (CNK), headquartered in Plano, Texas, is one of the primary beneficiaries. The company operates 461 multiplexes in the U.S., Mexico, Brazil and 11 other Latin American countries. Growth over the past five years has been blistering. In the first half of 2012, revenues jumped 11%, to $1.2 billion, and profits jumped 43%, to $93.7 million.
Cinemark probably can't keep up that pace, but the growth is far from over. The company says it plans to open 11 more theaters in 2012 and has signed agreements to open 16 more in 2013 and beyond. Analysts predict that earnings will grow at a 12% annual rate over the next several years. Meanwhile, the stock, at $23.16, sells for 15 times estimated 2012 earnings of $1.57 per share and yields 3.6%.
But what most impresses Osterweis's Berler is that Cinemark is delivering solid results despite a strong dollar (which results in money earned overseas getting translated into fewer bucks). That speaks to the strength of its Latin American business. If the currency headwinds abate, Cinemark could clean up, Berler says.
Shares of Coach (COH) recently went on sale after investors reacted negatively to quarterly earnings that were "only" 18% higher than the year before. Coach, which makes luxury leather handbags and shoes, as well as watches, jewelry and apparel, has been a stock market darling for decades, able to deliver strong profits even in the midst of a miserable economy. But market expectations were so high for the stock that its share price fell 18% on July 31, after the company said that it had engaged in some discounting in response to U.S. consumers' reluctance to spend. At $55.66 per share, Coach sells for 15 times estimated earnings of $3.85 per share for the year that ends next June.
Analysts expect the New York City-based company to generate annual earnings growth of 15% over the next few years, so the stock looks like a bargain, says David Brady, president of Brady Investment Counsel, a Chicago money-management firm.
To be sure, Brady adds, economies around the world look a bit shaky, which could create headwinds for makers of luxury goods. But Coach's executives have handled tougher challenges and came out smelling like fine Italian leather, he says. Brady thinks the recent retreat in the share price gives investors an attractive entry point to buy stock in a company they'll want to own for decades.
Danaher (DHR) was an industrial conglomerate made up of disparate cyclical businesses in 1990, when management decided it wanted to rationalize the company's structure and make it less vulnerable to the vicissitudes of the economy.
The company restructured to focus on five key areas in which it believed it could become a global leader. The wisdom of the strategy proved itself in 2009 as the nation struggled with the recession, says Morningstar analyst Daniel Holland. Although revenues of many of its rivals were cut in half that year, Danaher saw its sales drop about 12% and bounce back nicely in 2010. Revenues and profits have continued to rise by double-digit percentages.
Holland notes that the Washington, D.C., company's growth is primarily fueled by acquisitions, which he says Danaher does unusually well. Danaher's latest purchase, of Beckman Coulter last year, has not only proved profitable, it has put 40% of the company's sales in the rapidly growing health care sector.
But Holland is most impressed by how well the company has diversified, both geographically and within industries. Cyclical companies usually have a weak spot -- but not Danaher, he says. "There's no one single bullet that can take them down."
About 60% of the company's revenues come from outside the U.S., including about 25% from emerging markets. At $54.74, Danaher sells for 17 times estimated 2012 earnings of $3.24 per share. That's a reasonable price for a company that's expected to grow by about 15% per year for many years, Holland says.
Electronics for Imaging (EFII) is a 25-year-old company that makes controllers for color printers, as well as printing software. Although not a household name, the company has many things going for it, ranging from a record of double-digit growth in both sales and earnings, to the windfall it's about to reap from the sale of its headquarters building to Gilead Sciences.
The $180 million deal, which is set to be completed in October, equates to roughly $8 per share on EFII's balance sheet. If you subtract that amount from the stock's price, currently $16.87, you effectively pay less than $9, or a paltry 7 times estimated 2012 earnings of $1.20 per share. Not bad for a company that reported a 40% rise in earnings for the first half of the year. Sales, up 15% in the first half, are likely to keep rising at a high single-digit pace for the foreseeable future, says John Barr, manager of the Needham Aggressive Growth Fund.
It doesn't matter who wins the smart-phone wars. Qualcomm (QCOM) provides the technology that powers virtually every manufacturer's 3G and 4G devices. And with Apple having unveiled its new iPhone and an array of new tablets vying for shelf space, Christmas sales are likely to be strong enough to continue fueling another double-digit-percentage rise in Qualcomm's earnings. During the company's third fiscal quarter, which ended June 24, Qualcomm's profits were up 17% from year-ago levels, and sales spiked 28%.
But the San Diego company also derives about one-third of its revenue from royalty payments on a series of patents pivotal to our increasingly wired world. Standard & Poor's Capital IQ analyst James Moorman thinks Qualcomm's future growth will be fueled by China, where the rising middle class is increasingly turning to smart phones to communicate.
Qualcomm appears to be reasonably priced. At $63.67, it sells for 16 times estimated earnings of $4.10 per share for the fiscal year that ends September 2013. But analysts expect earnings to grow 14% a year over the next three to five years. Moorman thinks Qualcomm stock will hit $84 within a year.
Energy-services giant Schlumberger (SLB) is the prototypical multinational. The Houston company derives roughly 85% of its revenues from overseas, including developing markets in Africa, Brazil and Asia.
With particular expertise in deep-water drilling, Schlumberger is well-positioned to compete in a world where oil is harder to find, says Argus Research analyst Philip Weiss. Admittedly, oil exploration is a cyclical business, driven largely by crude prices. And weak prices for natural gas have hit the company's stock, Weiss says. But the price of natural gas has little to do with Schlumberger's profits, so Weiss just sees this as an opportunity to get the shares at a more reasonable price.
Despite an upper-teens P/E ratio, Schlumberger looks well-priced. At $74.26, it sells for 17 times estimated 2012 earnings of $4.29. But that's well below the 40% annual earnings growth that analysts expect over the next three years. Weiss thinks the stock will trade for $85 within a year.
U.S. airlines have to scratch and claw for every penny of profit they earn. Not so for Panama City-based Copa Holdings (CPA), says Bob McAdoo, airline analyst with Imperial Capital, a Los Angeles investment firm. With a hub in the Southern Hemisphere's crossroads, Copa has few direct rivals. That has allowed Copa to charge premium prices for its flights and register operating profit margins of 15% to 20% year after year. As economies in Brazil and the rest of Latin America continue to expand, Copa is likely to benefit because it gives travelers the most convenient way to hop around the hemisphere.
Copa's big advantage lies in the setup of Panama City's airport, explains McAdoo. Panama knows that it's a crossroads, so it treats connecting passengers as though they're hopping on a domestic flight -- no trip through customs unless you leave the airport. That saves time, and potentially the need to get a visa for a country you're just passing through, making the airport the ideal hub for business travelers in a hurry.
Copa's profits have been soaring. In 2011, they climbed 27%, to $6.98 per share. Analysts, on average, forecast $8.00 per share in 2012, an increase of 13%. The stock, at $83.53, trades at 10 times estimated 2012 profits. McAdoo expects the stock to reach $110 within a year.