REGULATION & COMPLIANCE
May 29, 2000
The SEC will not judge whether economies of scale are being passed along to fund shareholders in the form of lower fees in a report the agency expects to issue this summer.
The report on fund fees by the SEC's division of investment management will provide objective data on fees, according to SEC officials. The report, however, will not draw conclusions about trends with respect to fund fees nor will it make any recommendations for regulatory changes that would cap fees, SEC officials said.
The SEC's report will follow one that the U.S. Government Accounting Office has prepared on fund fees. That report is expected to be made public in June, said Thomas McCool, director of the GAO's office of financial institutions and markets issue area. McCool said the GAO report contains several conclusions but he declined to disclose them.
The SEC will issue its report on fund fees and allow the public to evaluate the data it contains, said Cindy Fornelli, a senior advisor to Paul Roye, director of the division of investment management. The report will cover the period from 1979 to 1998, she said.
The SEC will not try to regulate or cap fees, Fornelli said.
"We don't feel that it's our mission to set fees," she said. "We feel that's best left to competition and the marketplace."
The issue of mutual fund fees, which the SEC has been studying for more than two years, has been a controversial one for the fund industry. Some observers have questioned whether shareholders have benefited sufficiently from economies of scale as fund assets have grown.
According to that point of view, fund expenses should decrease as assets increase because the cost of managing a fund rises only marginally as funds grow in size. At the same time, the fees that fund advisers receive as assets grow can increase substantially.
The fund industry has long maintained that increasingly sophisticated services that funds provide to shareholders and the use of fee break points limit their economies of scale.
The issue of fund fees was raised at the Investment Company Institute's annual general membership meeting earlier this month in Washington, D.C.
Michael E. Porter, a professor at the Harvard Business School in Boston, and a keynote speaker at the conference, said it appeared that economies of scale were not being passed on to shareholders.
"Operating expenses have been pretty flat despite the fact that it's unbelievably clear that there is economies of scale," Porter said.
The fund industry now faces a potential competitive threat from less expensive products such as exchange-trade funds, Porter said. Historically, there has been no competitive need for funds to pass on the benefits of economies of scale to shareholders because of the absence of attractive lower-cost alternatives, Porter said.
Roye raised the issue of fund fees in his speech at the ICI meeting. The SEC will concentrate on disclosure and regulatory oversight to keep fund fees reasonable, he said. The agency's recent efforts to strengthen the independence of fund directors should help directors keep an eye on fees, he said.
"We want to give fund directors greater power to act independently and in the best interests of shareholders in their many areas of responsibility, including their review of the reasonableness of fund fees," Roye said.
The GAO's report might include some recommendations on that issue. One section of the report will deal with the role of independent directors in overseeing fund fees, McCool said. The GAO's report also will discuss the state of competition in the fund industry, the issue of economies of scale and an analysis of trends in fund fees, he said.
The GAO expects to send its report to the two congressmen who requested it - U.S. Rep. John Dingell (D-Mich.) and U.S. Rep. Michael Oxley (R-Ohio) this week, McCool said. The representatives are expected to make the report public after Congress reconvenes after Memorial Day, he said.