Mutual funds sometimes undergo a name metamorphosis, emerging from their original gray cocoons as beautiful butterflies that will fly your investment returns higher than ever … but does this flight really happen? Sometimes nothing changes, as the investment strategy remains the same. It\'s best to look beyond appearances and realize that a name change does not necessarily mean better performance.

Why the Name Change?
There are a variety of reasons that mutual fund companies will change the names of their funds:

1. The investment strategy for a particular fund may have changed so the old name is no longer appropriate. For example, after the dot com bubble burst in 2000, the Monument Internet Fund modified its investment strategy to include a heavy weighting of digital technology stocks rather than dot com stocks. To reflect this new investment strategy the fund was renamed the Monument Digital Technology Fund.
2. The original buzzword within the funds name may no longer be appropriate or popular. Take for example Morgan Funshares, which was originally Morgan Sinshares, investing specifically in "sinful" stock. Even though the name changed, the fund\'s holdings in tobacco and alcohol remained unchanged.
3. Mutual fund companies may change the name of a fund merely to attract more investors. In this case, the mutual fund undergoes a cosmetic change, but the investment strategy remains the same. These funds tend to be highly advertised, and, as a result, the management expense ratio is pushed up. A study by Michael Cooper of Purdue (PDF version here) found that over the three months after a fund\'s cosmetic name change, the flow of new money into the fund was 29.5%; those funds without a name change would experience only 12.1% new money.


Consequences

There are two main consequences resulting from a mutual fund name change:

1. Higher fees - If the fund has changed its name in lieu of a reallocation of assets, additional costs could incur from higher trading costs associated with reorganization of the portfolio, legal fees and advertising cost. These funds tend to have large 12B-1 fees, which go towards advertising and brokerage commissions.
2. An unsuitable investment portfolio - At one time it was not uncommon to see mutual funds change their name to reflect popular investment strategies rather than the mutual fund\'s main investment goal. This kind of name change, however, is largely eliminated today by stricter SEC regulation (discussed further below). These purely cosmetic changes create problems for investors who are pursuing an investment strategy suitable for their current asset allocation goals.

Why Do Investors Fall for It?
Rather than relying on advertisements and the name alone, reviewing a fund\'s prospectus for details of a mutual fund\'s holdings is a good policy for choosing mutual funds. Evidence, however, has suggested that people purchase funds based on the name itself. Perhaps the tendency for funds to advertise their new fund extensively attracts more investors. Other investors may have specific investing goals in mind, so they seek out investment funds whose names promise a particular strategy. For example, an investor with a growth investment strategy would seek funds with the word "growth" in the name.

Performance
The study by Michael Cooper discovered that funds who changed their names actually performed worse after the name change: "The average name change fund earned 1.36% per month in the year before the name change. This drops to 0.42% in the year after the name change." The observed decline in performance could be a result of the heightened fund fees, such as the 12B-1, or a continuation of a worsening trend.

Investor Protection
On Jan 17, 2001, the Securities and Exchange Commission (SEC) tightened their mutual fund regulations: mutual fund companies are now required to invest at least 80% (an increase from the previous 65%) of their portfolio in the strategy advertised by their name. If the mutual fund company chooses not to have 80% of its holdings reflect the name of the fund, it must change its name to reflect accurately the fund\'s investment strategy. If, after July 2002, mutual funds are not in compliance with the rules, violation could result in an investigation by the SEC\'s Division of Enforcement.

One may wonder why the SEC did not make the requirement 100%, which would allow investors to be certain that their entire investment in the fund follows the investment strategy suggested by the name. One explanation is that mutual funds must maintain some liquidity in order to meet redemption requests. The 20% remaining allows the mutual fund manager to invest some portion of the mutual fund\'s assets into cash and equivalents.

The Bottom Line
When you are searching for the mutual fund whose investment strategy matches your investment and income needs, it is best to look beyond the advertisement that promises large returns and beyond the name itself. Review the fund\'s prospectus and browse through the fund\'s top holdings. Compare the management expense ratio and the 12B-1 fees to that of other funds with similar investment strategies. Be wary if the fund you are looking at is spending big money promoting a new name and promising higher returns.

Related Articles
  1. Mutual Funds & ETFs

    Pimco’s Top Funds for Retirement Income

    Once you're living off the money you've saved for retirement, is it invested in the right assets? Here are some from PIMCO that may be good options.
  2. Mutual Funds & ETFs

    3 AllianceBernstein Funds that Are Rated 5 Stars by Morningstar

    Discover the top three mutual funds administered and managed by AllianceBernstein that have received five-star overall ratings from Morningstar.
  3. Mutual Funds & ETFs

    Top 4 Davis Funds for Retirement Diversification in 2016

    Discover the four best mutual funds managed by Davis Advisors that pursue different investment strategies that can help diversify retirement portfolios.
  4. Retirement

    Is it Safe for Retirees to Invest in Technology?

    Tech stocks are volatile creatures, but there are ways even risk-adverse retirees can reap rewards from them. Here are some strategies.
  5. Mutual Funds & ETFs

    Is Morningstar’s Star System An Effective Ranking Tool? (MORN)

    Learn why Morningstar's star rating system is not always a great predictor of future performance, and why investors should not pick funds on star ratings alone.
  6. Stock Analysis

    The Top 5 Oil and Gas Stocks for 2016 (XOM, BP)

    Read detailed analyses of the top five oil and gas stocks, and learn why they may be poised to rise in 2016 after a dismal 2015.
  7. Retirement

    Roth IRAs Tutorial

    This comprehensive guide goes through what a Roth IRA is and how to set one up, contribute to it and withdraw from it.
  8. Mutual Funds & ETFs

    5 Vanguard Fixed Income Fund Underperformers

    Learn about three Vanguard fixed income mutual funds that underperform compared to their benchmark indexes. Find out why low expense ratios are important.
  9. Mutual Funds & ETFs

    Top 5 Natixis Funds for Retirement Diversification in 2016

    Discover five mutual funds from Natixis Funds that provide high income, growth and preservation of capital while diversifying a retirement savings plan.
  10. Mutual Funds & ETFs

    4 Mutual Funds You Wish You Could Include In Your 401(k)

    Discover four mutual funds everybody wishes were in their 401(k)s. Learn which five-star-rated no-load funds leave their competition in the dust.
RELATED FAQS
  1. What is a derivative?

    A derivative is a contract between two or more parties whose value is based on an agreed-upon underlying financial asset, ... Read Full Answer >>
  2. What is the Writ of Mandamus?

    A writ of mandamus is a court order issued by a judge at a petitioner’s request compelling someone to execute a duty he is ... Read Full Answer >>
  3. Are target-date retirement funds good investments?

    The main benefit of target-date retirement funds is convenience. If you really don't want to bother with your retirement ... Read Full Answer >>
  4. Do mutual funds require a demat account?

    A dematerialized account enables electronic transfer of funds. The account is used so an investor does not need to hold the ... Read Full Answer >>
  5. How liquid are Vanguard mutual funds?

    The Vanguard mutual fund family is one of the largest and most well-recognized fund family in the financial industry. Its ... Read Full Answer >>
  6. Which mutual funds made money in 2008?

    Out of the 2,800 mutual funds that Morningstar, Inc., the leading provider of independent investment research in North America, ... Read Full Answer >>
Hot Definitions
  1. Inverted Yield Curve

    An interest rate environment in which long-term debt instruments have a lower yield than short-term debt instruments of the ...
  2. Socially Responsible Investment - SRI

    An investment that is considered socially responsible because of the nature of the business the company conducts. Common ...
  3. Presidential Election Cycle (Theory)

    A theory developed by Yale Hirsch that states that U.S. stock markets are weakest in the year following the election of a ...
  4. Super Bowl Indicator

    An indicator based on the belief that a Super Bowl win for a team from the old AFL (AFC division) foretells a decline in ...
  5. Flight To Quality

    The action of investors moving their capital away from riskier investments to the safest possible investment vehicles. This ...
Trading Center