The largest scandal in the mutual fund industry's 80-year history has prompted regulators to revamp how funds conduct business by implementing a series of reforms. Dozens of firms have been sued and accused of fraud, a handful of executives are facing criminal charges and investors have realized how little they really know about how their retirement dollars are being invested.

With much of the shock value of the scandal now petering out and firms adjusting to a more demanding compliance landscape as 2004 comes to an end, it seems prudent to look back on what has been a tumultuous 15 months.

Money Management Executive Senior Editor Kevin Burke spoke with Gary Gensler, former undersecretary of the Treasury during the Clinton Administration and author of "The Great Mutual Fund Trap," to reflect on what has transpired since that fateful day, Sept. 3, 2003.

MME: It's been 15 months since the mutual fund trading scandal was unearthed. What conclusions have you drawn from what has transpired?

Gensler: The events of the last two years highlighted for mutual fund management and directors the need to be more focused on fund shareholders. The obvious scandals of market timing and late trading have largely been addressed, but there still remains the challenge of getting the best returns for investors at the lowest cost with best service.

MME: Of the spate of new rules that the Securities and Exchange Commission has imposed on mutual funds this past year, which do you believe is the most significant area of reform?

Gensler: The most significant reform is in the governance of mutual funds themselves. When directors walk into the boardroom, who do they represent? The SEC tried to address that through changes in fund governance. Time will only tell if that will help. It has a chance, but it's not a silver bullet.

MME: What is your take on the rule requiring funds to appoint a chief compliance officer?

Gensler: The day-to-day compliance with various rules, regulations and filing is likely to bring more attention to regulation and compliance inside these firms. Managers and fund directors are more likely to address the more inherent conflicts of the brokers and the like. However, I don't know that it will affect overall returns in a positive way.

MME: The Commission is considering a rule requiring point-of-sale disclosure for brokers selling mutual funds. Will this have a significant impact on shareholders?

Gensler: When they look at a mutual fund, many investors don't appreciate how much of their money is going directly to the brokers. So, it could be helpful to know in aggregate dollar amounts what a broker is being paid to recommend a mutual fund.

MME: Directed brokerage and revenue sharing have been effectively banned. What does the future hold for Rule 12b-1 and the use of soft dollars?

Gensler: Both areas have significant conflicts of interest. The purpose of 12b-1 hasn't served itself, and it would be appropriate to roll it back. Investors would be better off. If that led to fees elsewhere through the process of negotiation, then at least they would be better disclosed to investors than 12b-1s.

The soft-dollar issue is sort of a triangular conflict of interest between the fund, the brokerage community and the advisors. It certainly should be significantly curtailed because it's still available to pay for so many things that aren't independent research. At the bare minimum, soft dollars should be added to the disclosed management fees. Good independent research should be able to compete in the marketplace rather than being buried in commissions and hidden from investors.

MME: Mutual funds are struggling to keep up with the deluge of rulemakings from a compliance standpoint. Is there a danger of regulatory overload?

Gensler: Regulation should always be a balance with only that regulation that is absolutely needed for the public good. Otherwise, the markets should be allowed to function. Given the scandals of the last two years, it is appropriate to address some of them with new regulation.

MME: What will investors ultimately take away from the trading scandal?

Gensler: Hopefully, confidence that mutual funds are working for them and not for the brokers, the advisors and other members of the financial community. There is certainly some good that has come out in closing down the market-timing and late-trading scandals. Time will tell whether they actually get better returns in the future.

The biggest issue that has been there for decades and continues to be a challenge is how to balance getting highest returns for investors with the payments to brokers and advisers. Coping with those inherent conflicts will continue to be a challenge.

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