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SEC Seeks Comment On New Code of Ethics


The Securities and Exchange Commission last Tuesday put forth the details of its code of ethics proposal for mutual funds, as part of a three-pronged approach to improve corporate governance and disclosure in the $7 trillion industry. (See code of ethics details, page 13.)

Regulators are seeking public comments on the proposed rule, which would institute a new law under Section 204A-1 of the Investment Advisers Act of 1940. The deadline for receiving comments is March 15, as posted on the SEC Web site.

"Advisors are fiduciaries that owe their clients a duty of undivided loyalty. The commission has become concerned that the obligations attendant to this duty were lost on the growing number of advisors we see each month on our enforcement calendar," the SEC said in a 42-page report.

Under the proposed rules, the code of ethics would require funds to establish standards of conduct that are expected to be followed by the advisor's personnel and reflect the advisor's fiduciary responsibility.

Specifically, the code must contain provisions that effectively safeguard material nonpublic information such as securities recommendations, client holdings and certain transactions to individuals without a "need to know."

Another tenet of the proposed code requires that those persons with access to such information disclose their personal securities holdings and transactions, particularly trades in mutual funds advised by the advisor or an affiliate. At present, only mutual fund advisors must have a code of conduct in place requiring their staff to report their personal transactions.

These "access persons" would also be required to pre-clear any personal investments in initial public offerings and private offerings. Any violations of the code would have to be reported to the mutual fund's chief compliance officer or to another designated person.

The SEC said that the proposed rule would result in additional costs, which could end up being borne by shareholders in the form of advisory fees. The added expense, however, was deemed to be relatively small.

Recommendations for new fund governance requirements are also on the table, with public comments due by March 10. At issue is whether independent directors should constitute 75% of a fund's board and whether a fund must have an independent chairman.

The third initiative, which deals with point-of-sale disclosure and trade confirmation, has yet to be submitted for public comment. That is perhaps the most groundbreaking rule change being offered in that it would require brokers to explain the fees associated with a particular transaction, as well as how they are compensated for them (see MME 1/19/04). It also requires the broker to provide comparative information regarding different funds and share classes.

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