WASHINGTON - As regulatory burdens increase, mutual fund boards of directors' attention to the real business at hand-sound asset management and fiduciary responsibility to the end investor-is conversely being depleted, industry heavyweights attested, speaking at the Investment Company Institute's 50th Annual General Membership Meeting here last Thursday.
And because fund boards, in turn, are saddling their chief compliance officers with the responsibilities of independent trustees, CCOs' muscle is also being needlessly inhibited.
These were among the key insights of four industry presidents and chief executive officers, speaking on the panel, "Leadership-The Changing World of Investing," moderated by Vanguard Chairman and CEO Jack Brennan.
The controversial 12b-1 sales load is also likely to undergo change, with panelists agreeing that the industry would welcome an order from the Securities and Exchange Commission to rename the 12b-1 fee to reflect its primary purpose: obtaining shelf space by guaranteeing sales agents, brokerages or fund supermarkets trailing commissions.
Mellody Hobson, president of Ariel Capital Management, suggested renaming 12b-1s "Distribution and Servicing Fees."
A proponent of the continuation of 12b-1 fees, which took the heat under the direction of former SEC Chairman William Donaldson, Hobson stressed that the barriers to entry in today's asset management industry, where more than 2,200 firms compete, would render it impossible for a boutique firm such as hers to bring its grand total of three mid-cap value funds to market, were it not for 12b-1 fees.
"I don't think a small company like Ariel, whose purpose is to bring non-traditional investors to market, could exist without a 12b-1 fee," Hobson said. "The fees are misunderstood but very important. It's our entree to get on the shelf."
After explaining American Century Investments' deliberate return from a no-load, direct-sold model in 2003 to one where 95% of new assets coming in the door today are through institutional or captive sales, American Century President and CEO Jonathan Thomas, also defended the functionality and the future of the 12b-1 fee.
Referring to the original purpose of the fees, which were born from an SEC exemptive order on multi-class shares in the 1980s and intended to buoy sagging assets at the time, Thomas admitted that the fees have evolved.
"This is a multi-part answer that [is dependent upon the fees'] original objective," Thomas said. Yet, 12b-1 fees, which are capped at 50 basis points, continue to "serve an important purpose as the mutual fund model has evolved."
But Arthur Zeikel, retired chairman of Merrill Lynch Asset Management, took great offense to the fees' metamorphosis over the past quarter century. "A, the fees got confused, and B, they got overdone," Zeikel said. "We've used them in a way that clouded the efficiency of leveling the playing field, and that's bad for the industry."
Still, Zeikel defended the fees, saying, "The prospectus [outlining their purpose] is very clear. I don't think their repeal is in order."
William J. Nutt, chairman of Affiliated Managers Group, when asked to comment on how the mutual fund industry has changed since he joined the business in 1972, answered in one word: opportunity.
"The idea of mutual funds playing a role in retirement planning didn't exist," Nutt said. "The universal 401(k), IRA and Rollover IRA legitimized it" and opened up limitless opportunities for Americans to invest in the capital markets. "Today, 401(k)s and IRAs command 50% of net sales. In 35 years, I'd say that's been our greatest opportunity."
Certainly, it's hard to recall even over the past half a century how Wall Street and the rest of the investment industry has changed, Nutt continued. "We live in a free market economy today," said the Affiliated Managers chairman.
Wage & Price Controls
"Not only the capital markets, but wage and price controls in the 1950s and the 1960s were tightly controlled by defined benefit plans. It wasn't until the crash in '71, '72 and the subsequent separation of assets through ERISA thereafter that the markets were opened to general Americans," Nutt recounted.
Leading up to the 401(k) was the subsequent creation of master trustee and custodian, which in and of itself permitted treasurers and fund trustees to conduct sophisticated analytics for the first time, Nutt continued. Following that was the advent of the DB consultant, "which gave rise to [investment management] boutiques," Nutt said. "Originally, there were only 16 major banks that controlled all of the assets in the nation."
The Power of One
Moving yet further away from the defined benefit/defined contribution model where a corporate treasurer, CFO or HR representative oversee assets, "control of one's financial future is now turned over to individuals, which gives opportunity to new products, distribution and educational systems."
Harkening back to the opening comments of ICI President Paul Schott Stevens the day before, whereby he called upon the government to remove the remaining red tape that discourages smaller employers from offering 401(k) plans in the first place, let alone robust advice and automatic enrollment and defaults, Nutt noted that for all of the empowerment that mutual funds offer, they don't work for everyone.
"People have become sophisticated, but for a lot of people [the 401(k) and self-directed DC model] hasn't worked," he cautioned.
Reflecting on the past and looking to the future, Stevens and Nutt both called upon the government to offer additional tax incentives to address retirement security needs for the next 50 years.
Although 50 million employees participate in 401(k)s, "which offer tax advantages, choice, portability and the ability for employees to manage their investments," bestowing on them an incredible "sense of accomplishment and dignity," Stevens said, it is crucial for government and the private sector to continually refine and improve the system, particularly in light of the economic challenges to Social Security and the decline of traditional DB plans.
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