Fidelity, Vanguard Grab Fund Inflows

NEW YORK (TheStreet) -- At a time when investors have been pouring money into municipal funds, Vanguard Group and Fidelity Investments have been recording strong sales. Of the $56 billion that flowed into municipal funds so far this year, $13 billion went to Vanguard, and Fidelity collected $4 billion, according to Morningstar.

While the two companies have long been dominant players in municipals, they have special appeal these days. During the turmoil that swept municipal markets in 2008, funds from both firms proved relatively resilient.

Which company should you favor? That's hard to decide. Both fund families follow conservative strategies, and they have delivered good long-term returns. In the end, some investors may prefer Fidelity, which has recorded slightly higher returns. Vanguard should appeal to tight-fisted shareholders, since the company famously charges rock-bottom expense ratios.

The most important ingredient in Vanguard's success is its low fees. While fees are a crucial factor for all funds, low costs are especially important for municipals because the annual returns are typically low. Consider Vanguard Long-Term Tax-Exempt(VWLTX Quote). During the past 10 years, the fund returned 5.5% annually, outdoing 94% of competitors and beating the category average by 0.85 percentage point. Much of the margin of victory can be traced to fees. Vanguard charges an annual expense ratio of 0.15%, compared with 1.02% for the average long-term municipal fund.

Funds that charge high expenses labor under a handicap. Fees are directly subtracted from yields and returns. To overcome the hurdle, some portfolio managers take on more risk. Many funds buy lower-quality bonds, hoping that their extra yields will compensate for greater expenses.