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Firms Seek (Some) Changes to Annual Reports

With respect to shareholder reports, fund firms are looking to the SEC both to make some critical changes and to leave well enough alone. While fund companies would welcome the elimination of the requirement to mail out entire schedules of portfolio holdings, they are strongly opposed to an increase in the frequency of such disclosure.

Reforming shareholder reports is an important item on the agenda of the SEC's division of investment management, and the division will likely soon make recommendations. The topic was discussed by industry executives last week at the 2002 Mutual Funds and Investment Management Conference in Orlando co-sponsored by the Investment Company Institute and the Federal Bar Association.

"There is broad agreement that shareholder annual and semi-annual reports can be made a heck of a lot more useful to investors," said Matthew Fink, president of the ICI. Fink suggests that shareholder reports include additional analytical information about funds, which could be supplemented with charts and graphs organized by several different investment categories.

More significantly, however, the ICI president wants the SEC to stop requiring that funds mail out full lists of their holdings twice a year.

"Shareholder reports could also be greatly improved if we're all willing to take a hard look at disclosure of fund portfolio holdings," said Fink. "Shareholder reports always should list the fund's largest holdings, and shareholders should always be able to receive a full list of portfolio holdings if they choose. But continuing to require that every shareholder be sent the list of the entire portfolio twice a year fails to enhance understanding or increase accountability."

Investors' Choice

As it stands now, funds waste a tremendous amount of shareholder assets due to the printing and mailing costs associated with sending out reports to millions of shareholders that include pages and pages of portfolio holdings, said Heidi Stam, principal at The Vanguard Group. Vanguard has a stock market fund that invests in approximately 3,000 securities yielding 36 pages that have to be mailed to shareholders twice a year, Stam said. The firm estimates that shareholders would save $2 million a year in total if that requirement was eliminated.

"We've asked the question, If it was our own money, would we spend it?' And the answer is no," Stam said.

Stam and other fund executives said that the information should be made available on a Web site and in print to shareholders that request it, but that the overwhelming majority of investors don't want it. Now that distribution of such information is possible via the Internet, the Commission has more disclosure requirement options than it did in the past, said Susan Nash, associate director of the SEC's division of investment management.

"It might be possible to pare back what we put in people's hands but make a wealth of information still available to those who wanted it," said Nash. "I think the Internet technology gives us some possibilities in this area."

According to Paul Roye, the director of the SEC's division of investment management, this issue is one of the division's top priorities and its disclosure group has spent a lot of time on it.

"We're moving full speed ahead on that aspect of shareholder report reform and hopefully we'll have a proposal for the Commission soon."

Another issue that has come into play with regard to shareholder reports is the issue of whether a fund's proxy voting procedures and results, as well as examples of fair value pricing situations, should be disclosed in annual reports, according to Kenneth Berman, a partner at the law firm Debevoise & Plimpton. There are some questions, however, about whether annual reports are the appropriate place for that kind of disclosure, he said. But if those items are to be required, but not in annual reports, funds might be forced to produce additional documents instead, according to Nash.

"I think part of that issue is really coming from a desire to require that information be disclosed only in the prospectuses and annual reports and not have other documents," Nash said.

More Frequent Holdings Disclosure?

Another major issue relating to shareholder reports is how frequently holdings are disclosed. According to Stam, that issue is separate from the other shareholder report issues and often gets wrongly linked to them. Still, the SEC is "actively thinking" about that issue in addition to the others, Roye said.

Recently there have been several petitions from groups such as the Consumer Federation of America and shareholder advocacy group Fund Democracy that have called for portfolio holding disclosure more often than twice a year. Some financial planners say that it would greatly help them reduce overlap in their portfolios. In this area, fund companies are hoping the SEC does not make changes, citing the opportunities it would give to market timers.