Common Sense on Mutual Funds: Fully Updated 10th Anniversary Edition

Chapter 12. On Asset Size: Nothing Fails Like Success

In the short span of two decades, mutual funds have grown from a mom-and-pop cottage industry to a financial behemoth. The great American mutual fund boom has multiplied equity fund assets fully 82 times, from $34 billion 20 years ago to $2.8 trillion presently. The old saying "Nothing succeeds like success" surely describes the industry today. As the great 16-year bull market has soared, investors have flocked to mutual funds in numbers not even dreamed of two decades ago.

But there is a contrary expression: "Nothing fails like success." The massive asset size and transaction volume of mutual funds (by portfolio managers and shareholders alike) have created serious problems, along with an important set of limitations for the industry. If small is beautiful, mutual funds are not as pretty as they once were.

The industry today differs not just in degree but in kind from what it was as recently as a decade ago. As a result, the past is unlikely to be prologue. The way we look at equity mutual funds must change, to reflect today's realities and those that we will continue to face in the years ahead. The history of mutual fund performance relative to the market is not likely to be very relevant to how mutual funds perform in the future. Nonetheless, despite having had the opportunity to outpace the market in an earlier era, mutual funds failed to do so by a wide margin.

Isn't Bigger Better?

Mutual funds—now holding $2.5 trillion of U.S. ...