Mutual Fund Investors: Divergent Profiles

Mutual funds are owned by almost half of all U.S. households, manage nearly $12 trillion dollars in assets, and have become a primary vehicle for retirement and investment savings in the United States. Who are mutual fund investors? The answer is critical to regulatory policy for the mutual fund industry. Fund investors, by selecting the funds in which they invest, play a central role in determining asset allocation and in controlling the fees and expenses that funds charge. Thus, the functioning of the mutual fund market turns on the knowledge and financial sophistication of fund investors. This article examines the profiles of mutual fund investors presented alternatively by the mutual fund industry, by the SEC, and by an extensive empirical academic literature. The industry portrays fund investors as diligent, fairly sophisticated, and guided by professional financial advisers. The result, according to the industry, is a competitive mutual fund market in which fund investors demand low costs and solid performance. The SEC's regulatory policy paints a more cautious portrait of fund investors. While acknowledging that many investors have limitations, however, the SEC touts improved disclosure by the industry as a sufficient antidote. The academic literature, produced primarily by finance professors, finds that fund investors are generally uninformed and financially unsophisticated. Most investors are unaware of the basic characteristics of their funds, pay little attention to costs (especially ongoing costs), and chase past performance despite little evidence that high past fund returns predict future returns. Even fund investors who use financial advisers do not make better choices. The SEC's belief that fund investors can fend for themselves, once armed with adequate disclosure, fails to appreciate the extent of investors' limitations. Instead, the findings of the academic literature suggest that policymakers should rethink current regulatory policy. Disclosure may not be enough.