Former vice presidential candidate Sen. Joseph Lieberman (D-CT) is asking lawmakers to create a new SEC division dedicated to representing investors in the agency's policymaking process, as well as require fund firms to provide easy-to-understand disclosure of fund characteristics.
These provisions are part of The Small Investor Protection Act, legislation Lieberman was set to introduce in the Senate last week, although he had yet to do so as of press time.
Lieberman said the SEC needs to create a Division of the Investor because the average investor is not adequately represented at the regulatory table. While Wall Street representatives regularly meet with the Commission to comment on and shape new policy, small investors do not have as much influence. The division would allow small investors' perspective to be heard on new rules and policy proposals, as well as their concerns. The division would also serve as a forum for investor advocacy groups.
"As someone who has been working on investor protection issues as a consumer advocate since the mid-1980s, I can tell you that regardless of which administration is in power, industry finds it far easier to influence that process than investors do, particularly small retail investors," said Barbara Roper, the director of investor protection at the Consumer Federation of America. Roper said the bill is important because it formalizes and raises the role of investors in SEC policymaking. "Creating an office within the SEC that is specifically responsible for representing the interests of investors and ensuring that those interests are reflected in SEC policymaking is not a silver bullet, but I think it would be useful."
The bill, which is meant to complement other reform proposals in the wake of the scandal, will also take aim at the lawyer-like gibberish that fills many fund disclosure documents by requiring investment companies to provide "brief, easy-to-understand" disclosure of mutual fund characteristics. Recognizing that important details of a mutual fund purchase are often lost by average investors among the pages of material provided by fund firms, the proposal seeks to have expenses, risks and the level of diversification, among other things, spelled out in simple terms.
Lieberman's proposal also seeks to help the SEC further comprehend the level of understanding that average investors have of disclosure materials they receive, so that the regulator can pass meaningful reform. While the SEC has "occasionally" conducted consumer research, it does not regularly test its new proposals to find out whether investors would even understand the new, supposedly improved, disclosures, Lieberman said. The Small Investor Protection Act would require the Commission to consider "empirical consumer research" to determine whether the wording, format and context in which the information appears under new requirements is likely to improve the average investor's comprehension.
"We thought Sen. Lieberman did a very good job of identifying a few issues that had not been addressed in other proposals," Roper said, noting it is important regulators look at disclosure rules critically to ensure they are likely to be effective. "Doing the kind of research and testing that will ensure disclosures effectively and convey the information that investors need in a form they can understand is important. I think a classic example of the failure to do this is the SEC's proposal on cost disclosure in shareholder reports. Putting new cost information in a document nobody reads before they purchase a mutual fund is not going to do anything to enhance cost competition in the mutual fund industry," Roper said.
The bill would also provide legislative recognition of and institutionalize the responsibilities of the Office of Risk Assessment at the SEC, a department SEC Chairman William Donaldson announced the creation of earlier this year. The SEC declined comment, and both the Investment Company Institute and the Securities Industry Association said that they had not sufficiently reviewed the proposal to comment on it.
Jeff Keil, vice president of Lipper's Global Fiduciary Review, said the legislation brings forward several new topics that have not been addressed in the slew of other proposals in the House and Senate. "The spirit of Mr. Lieberman's legislation makes a lot of sense," he said. "In effect, a lot of parties and regulators have been trying to do this for decades," he said referring to requiring easy-to-understand information.
However, Keil said it is much more complicated than simply requiring a cheat sheet of easily read numbers and ratios. Providing information in that format is "no simple task" and something that has been worked on for decades with no one coming up with a clear solution. "The problem the SEC has is when you try and simplify something very complicated, you run the risk of oversimplifying it. It loses something in the translation and it is misused by the investor. That's the fear the investing professionals have."
Despite the many positive accolades supporters give to the proposal, it may all be a moot point, as Sen. Richard Shelby (R-AL), head of the Senate Banking Committee, has made it clear that he has no intention of pursuing any of the mutual fund reform bills in the Senate in the immediate future, despite the passage of the Baker bill in the House. Shelby said he will defer to the SEC to clean up the mutual fund mess for the time being. The fact that Congress is fast approaching its summer recess further hampers the bill's likelihood of immediate success.
"I would rather see the energy and time and the effort being spent on more substantive things, but you can't argue with this stuff," said Roy Weitz, publisher of FundAlarm.com. "The division of the investor, depending on who runs it and how well it is integrated, could work, [or] it could not," he said. "If it becomes a part of the SEC's culture, it should work. But, I have a mixed mind about these things. One is that it just adds complications, but the other is that it is worth a shot."