While the Securities and Exchange Commission wavers on the nearly three-year contested issue of independent board chairman—seemingly in favor of allowing a lead independent director—Morningstar has just shot off a letter to the SEC urging it to make independent chairmen a requirement.
“Without independent chairs and a supermajority of independent directors, we think the effectiveness of many boards is compromised by the inherent conflicts of interest between interested fund directors and fund advisors,” Morningstar Senior Fund Analyst Laura Pavlenko Lutton wrote in her March 1 letter.
Most notably, Morningstar said, is the question of fees. While lower fees are in shareholders’ best interests, there “aren’t likely to be in the best interest of the interested directors whose firms seek to maximize profits.”
Funds with independent chairmen and a supermajority are also likely to deliver better performance specifically because of these lower fees, Morningstar goes on to say, citing its own research.
As far as earlier research that shows that funds run by independent chairman perform worse, Morningstar noted that report was based only on 14 funds, and that they were bank-run, which tend to deliver lower-than-average fees.
Conversely, there are times when hiring an affiliate of a fund company might be beneficial for a fund through lower expenses, but an interested director isn’t likely to vote for such a measure. Were there an independent chairman, the fund would be at liberty to do the right thing for the fund without fearing regulators’ retribution.
Finally, Morningstar questions whether an interested chairman, who isn’t paid for their service on the fund board, will give it their all.