Mutual fund history
Mutual fund history tracks the history of mutual funds, which are registered investment companies that pool investors capital for the purpose of investing in securities. Mutual funds are managed by professional money managers. They are a primary funding vehicle for the corporate contributory retirement system in the United States.
The history of the mutual fund can be traced to the thriving late 18th century markets in Amsterdam. In July of 1774, an Amsterdam broker by the name of Abraham van Ketwich offered on the market a diversified pooled security specifically designed for citizens of modest means. The security was known as a negotiatie, an instrument very similar to the present day closed-end fund. This first negotiatie, Eendragt Maakt Magt, invested in bonds issued by foreign governments and banks and in plantation loans in the West Indies. The issue was successful and van Ketwich introduced his second negotiatie, Concordia Res Parvae Crescunt in 1779, with more freedom in investment policy. The prospectus stated that the negotiatie would invest in "solid securities and those that based on decline in their price would merit speculation and could be purchased below their intrinsic values..." Concordia Res Parvae Crescunt existed for 114 years; in 1893 it was officially dissolved. During the 1780s and 1790s more than thirty negotiaties emerged to speculate on the future credit of the United States.
When the pooled investment structure crossed over to the English markets in the nineteenth century it evolved into the investment trust, essentially a closed-end fund. The first investment trust, Foreign and Colonial Government Trust, was founded in 1868 in London. The trust invested in foreign government bonds. The most famous of these investment trusts was Robert Fleming's First Scottish American Investment Trust invested in U.S. railroad bonds. By the 1890s the investment trust had migrated to the American markets. The Boston Personal Property Trust, formed in 1893, was the first closed-end fund in the United States.
The 1920's saw the creation of the first open-end mutual fund, Massachusetts Investors' Trust in Boston, Massachusetts (1924). The fund went public in 1928, a year which also saw Scudder, Stevens and Clark launch the first no-load fund and the creation of the Wellington Fund, the first mutual fund to include a balanced portfolio of stocks and bonds. By 1929 there were 19 open-ended mutual funds competing with nearly 700 closed-end funds. The stock market crash of 1929 wiped out many highly-leveraged closed-end funds; the small open-end funds managed to survive. The ensuing round of 1930's financial legislation laid the groundwork for the contemporary mutual fund industry. The era saw the creation of the SEC, the passage of the Securities Act of 1933 and the Securities Exchange Act of 1934. The Investment Company Act of 1940 followed. The act set the legal framework for four types of registered investment companies in the United States:
- Open-end investment companies (mutual funds);
- Closed-end investment companies ( Closed-end funds);
- Exchange-traded funds (ETFs);
- Unit investment trusts (UITs).
The postwar period marked an era of substantial growth for the U.S. mutual fund industry. By 1951 there were more than 100 mutual funds in existence, and 150 more funds were added over the next two decades. At the close of the buoyant late 1960's stock markets, U.S. mutual funds held an average 87% of their assets in stocks. The ensuing major 1973-1974 bear market in stocks and high inflation during the decade resulted in investor redemptions and shrinking assets for mutual funds. The challenging 1970-1980 decade was marked by a number of innovations. Bruce R. Bent established the first money market fund in the U.S., The Reserve Fund, in 1971, which allowed savers and investors access to the high, often double digit, money market yields during an age of regulated bank interest rates (5.25% maximum.) The money market fund was very successful. In 1982, mutual fund assets consisted of 76% of assets in money market funds, 8% in bond funds, and 16% in stock funds.
The decade saw John Bogle create a unique mutualized mutual fund firm, Vanguard, in 1975. The following year Bogle launched the first retail index fund, First Index Investment Trust, based on the S&P 500 Index. A number of this era's tax initiatives laid the foundations for growth in the U.S. mutual fund industry. The traditional IRA was created in 1974 (much liberalized after 1984); in 1976 the law not allowing mutual funds to pass through tax exempt income to investors was amended, thus spawning municipal bond funds; and the 401(k) corporate retirement plan came into existence in 1981. Mutual funds were to become the primary funding vehicle for both IRA's and 401(k) plans.
In 1993, Nathan Most, an executive with the AMEX stock exchange, building on earlier efforts (1989 Index Participation Shares, halted by litigation, and 1990 Toronto Index Participation Shares) developed the exchange-traded fund with Standard & Poor's Depositary Receipts ("spiders"), based on the S&P 500 Index .
The extended bull markets in stocks and bonds over the last two decades of the twentieth century resulted in explosive growth for the mutual fund industry. At the end of 1999, there were 7,791 mutual funds in the United States, holding over 6.8 trillion dollars of assets. The growth phenomenon was worldwide: the year ended with 52,746 mutual funds in the world, holding 11.39 trillion dollars of assets. The asset class holdings of the US mutual fund industry held 59% stocks; 6% balanced; 12% bonds; and 24% money markets at century's end.
Twenty first century
The first decade of the twenty-first century saw historic bear markets in stocks at the beginning and end of the decade. The year 2003 also revealed scandal in the U.S. mutual fund industry.
In the U.S., high equity valuations, economic recession, and the 2001 terrorist attacks augured a three-year period of negative returns in the U.S. stock market. Global markets also fell during this period (see accompanying chart). In the U.S. this period was marked by corporate accounting malfeasance. The legislative response was the enactment of the Sarbanes-Oxley Act of 2002.
U.S. mutual fund scandal
On September 3, 2003, New York Attorney General Elliot Spitzer launched an investigation into late trading and market timing focused on the activities of hedge fund Canary Capital Partners, LLC, its managers, and four mutual fund companies with which it had formal trading agreements: Bank of America, Janus Capital Group, Bank One, and Strong Capital Management. By the end of the investigation, charges were leveled against over twenty mutual fund companies and brokerage firms. Seventeen firms made settlements with prosecutors and paid $3.11 billion in fines.[note 1]
Fallout from the scandal forced the resignations of Lawrence Lasser, CEO of Putnam Investments , and of Harold J. Baxter and Gary L. Pilgrim founders of the PBHG Funds. Richard S. Strong, founder of Strong Capital Management was fined and banned from the financial industry for life.
The SEC considered a number of mutual fund initiatives  in response to the scandals. Final rules primarily involved increased information disclosure and enhanced compliance procedures, including the designation of a chief compliance officer.
The 2008 financial crisis
The financial crisis in 2008 triggered a freeze in U.S. money markets. On September 16, the day after the collapse of Lehman Brothers, the Reserve Fund, the nation's oldest money market fund, held Lehman paper totaling 1.2% of the fund's assets. Losses on this defaulted paper caused a drop in the fund's net asset value to 0.97 cents per share. The result was a bank run, as first, institutional investors and then retail investors began redeeming funds holding corporate paper for exchange into funds holding government and treasury paper. The market for commercial paper simply did not trade. The Federal Reserve intervened with temporary programs to liquefy the commercial market and to provide government insurance for money market funds.[note 2]
In the U.S. the crisis resulted in a series of new regulations for the mutual fund industry. The main thrust of the regulations centered on steps designed to bolster fund liquidity, improve fund compliance with regulations, and increase informational transparency.
In 2015, in keeping with the emphasis on regulating liquidity, the SEC proposed liquidity management rules for mutual funds.
Mutual fund trends in the first quarter century
Two persistent trends have marked the global mutual fund universe in the on-going first quarter of the twenty-first century. The first noticeable trend is the rapid growth of the exchange-traded fund. From an asset base of $66 billion dollars in 2000, world-wide exchange-traded funds measured assets of $4.7 trillion at 2018 year-end.
The second prominent trend at the beginning of the century is the growth of index funds. In the U.S. index funds held 9% of total net long-term fund assets in 2000. The percentage had grown to 36% of total long-term fund assets by year-end 2018.
- 1774: Adriaan van Ketwich introduces the negotiatie Eendragt Maakt Magt, soon followed by Concordia Res Parvae Crescunt
- 1863: Scottish Investment Trust
- 1893: First American closed end fund, Boston Personal Property Trust
- 1924: First American open end fund, Massachusetts Investors' Trust in Boston
- 1928: First American no-load mutual fund, by the firm Scudder, Stevens and Clark
- 1928: First American balanced fund, Wellington Fund
- 1929: Stock Market Crash
- 1933: Securities Act of 1933
- 1934: Securities Exchange Act of 1934
- 1940: The Investment Company Act of 1940
- 1971: Bruce R. Bent established the first money market fund in the U.S. The Reserve Fund
- 1974: Creation of the Individual Retirement Account (IRA)
- 1976: Municipal bond funds allowed by law
- 1976: John Bogle oversees the creation of the first retail Index fund
- 1981: Creation of the 401k plan
- 1993: Creation of the Spider S&P 500 ETF
- 2003: U.S. Mutual fund scandals
- 2008: The Reserve Fund breaks the buck
Firms Implicated in the 2003 Mutual Fund Scandal Mutual Funds Brokerage firms
- Alliance Capital
- Federated Investors
- Fleet Boston Financial
- Franklin Resources
- Fred Alger Management
- Invesco Funds
- Janus Capital
- Loomis Sayles
- Nations Funds (part of Bank of America)
- One Group (part of Bank One
- Putnam Investments
- RS Investments
- Sentinel Group
- Strong Capital Management
- Sun Life Financial
- Bear Stearns,
- Merrill Lynch,
- Smith Barney (part of Citigroup
- US Trust Co. (part of Charles Schwab)- ordered by federal authorities to close
- UBS (formerly Paine Webber)
- Wachovia (formerly Prudential Securities)
- Each Federal reserve program had a specific purpose and a finite life span:
- Treasury’s Temporary Guarantee Program for Money Market Funds provided insurance for investor money fund accounts. The program was initially in effect for three months, beginning September 19, 2008, but was later extended through September 18, 2009. Treasury did not extend the program beyond September 18, 2009.
- Money Market Investor Funding Facility (MMIFF) provided liquidity to U.S. money market mutual funds in order to increase their ability to meet redemption requests and to enhance money market investors' willingness to invest in money market instruments, particularly for terms longer than overnight. The facility was announced on October 21, 2008, and was closed on October 30, 2009.
- Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility (AMLF) provided liquidity that allowed money funds to sell asset-backed commercial paper. The facility was announced on September 19, 2008, and was closed on February 1, 2010.
- Commercial Paper Funding Facility (CPFF) allowed the Federal Reserve to directly purchase commercial paper, providing liquidity to the market. The facility was announced on October 7, 2008, began purchases of commercial paper on October 27, 2008, and was closed on February 1, 2010.
- Mutual Funds, from Investor.gov (SEC), viewed September 09, 2015.
- Rouwenhorst, Geert K. (December 12, 2004). "The Origins of Mutual Funds". Yale ICF Working Paper No. 04-48. pp. 5-6. http://ssrn.com/abstract=636146.
- Rouwenhorst (2004) p.7
- Rouwenhorst(2004) p.11
- Rouwenhorst (2004) p.12
- Rouwenhorst (2004) pp. 16-17.
- A Brief History Of The Mutual Fund, James E. McWhinney, investopedia
- Securities and Exchange Commission (SEC)
- The Laws That Govern the Securities Industry
- A Brief History Of The Mutual Fund, James E. McWhinney, investopedia
- A Brief History Of The Mutual Fund, James E. McWhinney, Investopedia
- Sellon, Gordan H. Jr., Changes in Financial Intermediation: The Role of Pensions and Mutual Funds, Economic Review Third Quarter 1992, The Federal Reserve
- John Bogle (2001), Economics 101: For Mutual Fund Investors... For Mutual Fund Managers, John Bogle on Investing, McGraw-Hill, ISBN 0071364382.
- Vanguard: History
- John Bogle, Giving the Bond Fund Investor a Fair Shake, Upon Induction Into The Hall of Fame of the Fixed Income Analysts Society, Inc., New York, New York, November 10, 1999
- Gary L. Gastineau (2002), The Exchange-Traded Funds Manual. John Wiley and Sons. pp. 32. ISBN 978-0471218944.
- ICI 2004 Mutual Fund Factbook
- H.R.3763 - Sarbanes-Oxley Act of 2002
- Zitzewitz, Eric, How Widespread is Late Trading in Mutual Funds? (September 2003). Stanford GSB Research Paper No. 1817.SSRN
- Thomas Middleton (12/9/2003) Mutual Funds:The mutual fund scandal and you
- Houge, Todd and Wellman, Jay, Fallout from the mutual fund trading scandal, Journal of Business Ethics, Volume 62, Issue 2, pp. 129-139, 2005.
- Scandal outrage keeps growing...,B John Waggoner, Christine Dugas and Thomas A. Fogarty, USA TODAY, 11/4/2003.
- Mutual Funds Report; A Scandal, but Business Booms, Patrick McGeehan, New York Times, January 11, 2004.
- Fund executive accepts life ban in trading case, Riva D. Atlas, New York Times, May 21, 2004.
- SEC Mutual Fund Initiatives
- Final Rule:Compliance Programs of Investment Companies and Investment Advisers, SEC, 17 CFR Parts 270 and 275
- Money Market Fund Reform; Amendments to Form PF, Federal Register, Section D, August 14, 2014.
- SEC Approves Money Market Fund Reforms to Better Protect Investors, SEC press release, Jan. 27, 2010
- SEC Adopts Money Market Fund Reform Rules, SEC press release, July 23, 2014
- SEC Proposes Liquidity Management Rules For Mutual Funds And ETFs, SEC press release, Sept. 22, 2015
- Regulation (EU) No 1286/2014, Key Information Document (KID)
- Money Market Funds, Proposal of the European Commission – 04.09.2013, September 4, 2013
- ICI 2019 Factbook, Chapter Four, ICI 2019 Investment Company Factbook
- ICI 2019 Factbook, Chapter 2, ICI 2019 Investment Company Factbook
Mutual fund regulation
|Superannuation, Australian Prudential Regulation Authority|
|The Canadian Securities Administrators|
|UCITS: Undertakings for the collective investment in transferable securities - Investment Funds - The EU Single Market|
|Securities and Exchange Board, SEBI|
|Financial Services Agency, Financial Instruments and Exchange Law|
|SEC Investment Company Registration and Regulation Package, U.S.|