Bank Customers Buying Bonds Instead of Bond Funds

Still rattled by last year's bond slump, bank customers are buying short-term bonds instead of shares in long-term bond funds.

In a round of interviews last week, many bank brokerage presidents said their customers feel more comfortable with individual bonds.

Though the funds use diversification to protect customers against default, they do not protect principal against market flucutation.

"Bond funds are really out of favor now," said Joe Tessmer, president of FBS Investment Services, the brokerage arm of First Bank System Inc.

This sentiment shows up in data collected by the Investment Company Institute, the fund industry's trade group. In June, $697 million flowed out of bank and nonbank bond funds, compared with an inflow of $287.3 million in May.

Bank customers, many of whom were rookie mutual fund investors last year, were shell-shocked when they saw their principal plummet during 1994's bond slump.

"They want very limited risk to their principal," Mr. Tessmer explained.

Gerald Thomas, president of the brokerage arm at Chicago's St. Paul Bancorp, said he saw about 10% of the money invested in bond funds last month shift to individual Treasuries and municipal bonds as interest rates have begun to drop slightly.

In the process, brokers are often given up about 2.25% more in commissions when they make a bond transaction instead of selling a bond mutual fund, noted Mr. Thomas.

Some mutual fund executives weren't surprised bond funds have lost popularity at banks.

"The bank reps are being taught by the management to focus on not losing principal for the client," said Elie Genadry, president of Dreyfus Corp.'s institutional services division.

Dreyfus expects sales to taper off this month. The Mellon Bank Corp. subsidiary, which sells primarily bond funds, saw hefty sales growth in May and June, as it introduced three new stock funds.

Mr. Genadry said July isn't shaping up quite as strong, with only 3% to 4% growth over June.

Another reason bond funds are sluggish at banks is because the stock market's record highs have many investors jumping into stock funds. Investment Company Institute data show that fund investors put $7.8 billion in stock funds in June, compared with $8.1 billion in May.

Boston-based Colonial Group Inc. said stock funds are gaining ground over bond funds in its sales to banks.

Only recently has the fund company's mix shifted so that 40% of the funds it sells are stock funds, twice as much as a year ago, said Craig Howard, a senior vice president who heads Colonial's bank division.

"Brokers are recognizing the need to diversify their client portfolios to prepare for another drop in the bond markets," he said.

The most popular fund remains Colonial Strategic Income Fund, a bond fund that invests in corporate and foreign bonds as well as domestic ones. But gaining steam at banks are Colonial's U.S. Fund for Growth, its Newport Tiger Fund, and a growth and income fund called the Colonial Fund.

Mr. Howard insisted that bank brokerage firms are quickly developing strong sales cultures and are positioning themselves for future growth.

"Bank brokers are no longer dependent on referrals from branch employees because they are more comfortable going out and getting the business on their own," he said.

But how long the emphasis on stock funds will last remains to be seen.

At Bank South Corp., Atlanta, July sales were leveling of from unusual highs in June, said James Overholt, president of Bank South Investment Services.

Mr. Overholt quipped that the stock market's record surges have made some of his customers as jittery as last year when mutual fund performances were in the doldrums.

"Our money market funds are gaining rapidly because a lot of people are expecting the markets to take a breather soon," he said.

Indeed, St. Paul's Mr. Thomas added: "Our business would pick up if there was a 5% to 10% correction in the Dow Jones industrial average. The public has been conditioned over the years to buy during corrections."

Stock funds at St. Paul, however, have driven a 23% surge in sales in July over June. The most popular funds are Putnam Growth and Income Fund and the Oppenheimer Main Street Income and Growth Fund.

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