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By Alec Lucas | 11-01-2016 11:00 AM

Why American Funds Broadened Its Reach

Capital Group’s Tim Armour explains the load shop's recent move onto Schwab's and Fidelity's no-transaction fee platforms.

Alec Lucas: Hi, I'm Alec Lucas from Morningstar's manager research team, and I am pleased to introduce Tim Armour of Capital Group's American Funds. He's currently the chairman of Capital Group, a role he's had since 2015. And he's been a portfolio manager on a number of funds, including American Fund's New Economy, since the early 1990s.

Tim, thanks for joining us.

Tim Armour: Thank you, Alec, for having me.

Lucas: So, want to start off with, a big development for your firm. American Funds has long been known for its commitment to working with financial advisors, and you recently made, in late December, your whole lineup available to retail investors commission-free on the brokerage platforms of Fidelity and Schwab. Can you talk about what motivated that decision and the extent to which the Department of Labor's fiduciary rule played a role?

Armour: Sure, well, Alec, as you know we've been in the business for 85 years. And we've been in the business delivering great investment results for 85 years. And we've always felt it's very important to have brokers, advisors there with clients to help them stay put in shaky periods. Importantly, though, we have a portion of our business that's in 401(k) plans. And both Fidelity and Schwab on their platforms are big 401(k) providers. Those investors though in those 401(k) plans were not able to roll over out of those plans into our funds without paying a commission. Obviously, we want our investment services available to investors, and we want them to not have to pay a second commission per se to get in. So, this was a logical extension of us broadening our reach to get to investors.

Also, importantly though, I think you should take this in the overall context that we want to be available where investors want us. And both Schwab and Fidelity platforms are important ones and ones that we think will be continuing to grow as well as other distribution platforms in the future.

Lucas: So, investors can expect that you'll be available, it's likely you'll be available on other platforms as well over time.

Armour: Definitely. And you asked about the Department of Labor and what influence this is having on these developments. Clearly, with the Department of Labor's most recent actions here with the fiduciary standard, we think more and more of the business will go the advisory model where an investor pays say annual fee to the broker to provide them with advice and good service. So, we need to be available on those platforms where advisors are offering that type of service, and both Fidelity and Schwab do provide that platform for many registered investment advisors, and we want to appeal to that advisor base, also.

Lucas: OK. So you mentioned the Department of Labor as well. It's going to accelerate, I mean it is expected to accelerate the shift to passive investing, and that's been a topic in the news a lot, lately especially. You've contributed to that discussion of the merits of active management versus passive indexing. Can you summarize your contribution to that discussion that you published recently? As well as maybe just answer the claim that active managers can't consistently add enough value to justify their fees relative to passive options, which is something you hear a lot.

Armour: Yeah. You know we're in an interesting phase in the industry, the passive-active debate as many have wanted to put it, we think is misguided. We really, believe there are many forms of investing that investors will choose, whether it's index investing, passive investing, or investing based on fundamental analysis and principles, or what many call active investing. We know over our 85 years of experience that we've been able to generate superior investment results over the long run relative to indexes or passive. So, we think the key thing for investors to focus on are investment results and low fees. Both of those we deliver and have delivered over the long run in our funds.

Importantly, also we think there are some attributes of funds that investors can pay attention to that help narrow the universe, where they can get better than average types of returns. Which is what you get when owning an index. After all would any of us want the average doctor or the average lawyer out there, no we want the best we can get. We believe our investment services should be compared to any other investment services out there whether they're active or passive. And we think there are two ingredients really one can look at to narrow the field. One is lower fees, what managers have low fees. And then importantly what funds or what investment vehicles do the actual manager of those vehicles have large ownership in those investment funds.

So in our case we are very high portfolio manager ownership. We have very low fees, and our funds have done really well. There are other active managers who also fall into that category that have done better than passive over time. So we think there are some simple ways people can utilize these tools to narrow the universe. But most importantly active and passive will coexist, I think the industry and investors are going to be much better off if we stopped this barrage of argument. Which is better, they will coexist, there are opportunities with both. And we think people should be striving to get the best returns they can possibly get.

Lucas: So if you're going to go active, low fees, manager investment, and a good track record is sort of what you guys are saying are the good inputs investor should look for?

Armour: You bet. And we've done a lot of back testing on that I know Morningstar has also and it's proven to be very effective.

Lucas: And that of course speaks to culture, your culture has been a strong point. The firm has really stuck to what it does best and that's served it well. At times though I think it's fair to say that Capital Group has perhaps been slow to incorporate innovations with investing potential, thinking of derivatives and fixed-income world. Can you talk about the challenge of keeping tabs on promising industry changes while maintaining your culture?

Armour: Sure. Well again for our 85 years culture has been paramount. We are a private company. We run ourselves for the end investor. That is our litmus test. Everything we do and how we do it we want to make sure we're delivering the best services at the lowest fees to our investors and providing great investment returns. Our culture is actually, what holds us together, the fabric of the organization, and it's critically important. I must say that we're really pleased that Morningstar has recognized that in our stewardship ratings and how we do in your eyes in terms of the culture. So it is critically important.

Really getting though, to this question of innovation and willing to try new things: We have a long history of doing things differently and evolving and changing. I think in the early days probably one of the best examples is we were one of the first organizations really, to invest outside the United States. And we built up our capabilities to invest globally long before it was fashionable, but we thought that was the best way to find great investment opportunities. Similarly, we've been willing to change our share class structure over time to accommodate the advisor world out there in terms of how they want to sell our funds. We've also been willing to add to investment services over time where we see a need for the investor and in the marketplace. So a great example of that would be target-date funds. More recently we've launched some new funds in our fixed-income area and we've launched some funds revolving more around developing markets.

I think importantly you asked specifically about derivatives. Early on with the advent of derivatives we had some concerns about counterparty risk and other issues if something went wrong. So yes, we were careful we spent our time trying to understand these instruments and today we do use them where appropriate. So, I think I would characterize us as, we want to understand what we're getting into. We want to make sure that it makes good sense for the end investor and that we can deliver on our promise of delivering superior long-term investment results. But we are willing to consider things, the world is changing and evolving, and we need to continue to change and evolve with it.

Lucas: OK. So, a commitment to excellence is going to be one that'll serve you well I guess.

Armour: You bet.

Lucas: OK.

Armour: It is very important.

Lucas: Well, thank you very much, Tim, for joining us and giving us your thoughts on Capital Group.

Armour: Alec, thank you for having us. We appreciate it.

Lucas: From Morningstar's manager research team, I am Alec Lucas. 

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