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Mutual Funds Cut Fees -- Some Voluntarily, Some Not

The number of mutual funds lowering fund-management fees is proliferating, and as the mutual fund scandal continues to unfold, this trend should spread, according to industry analysts.

Already, fund companies that have not been implicated in the scandals have begun making fund-management fee cuts. Just recently, Mosaic Funds said it had reduced fees. The Mosaic Investors Fund has been cut to 0.88% from 1.15% two years ago.

Other fund companies that have cut fees recently or are considering doing so include Chase Investment Counsel Corp. in Charlottesville, Va., Robert W. Baird & Co. in Milwaukee, Pioneer Investment Management in Boston and Oppenheimer Funds in Denver.

The first to cut fund-management fees was New York-based Alliance Capital Management, which agreed to a weighted average reduction of 20% in fees on its U.S. long-term open-end retail funds for at least five years as part of its settlement over market-timing with the Securities and Exchange Commission and New York Attorney General Eliot Spitzer (see MME 12/22/03). Then MFS Investment Management, based in Boston, agreed to lower its fees by $25 million annually over five years as part of a settlement with regulators (see MME 1/12/04).

Putnam Investments, which was also implicated by the scandals, voluntarily cut its fees, saying in a statement that the move would put 100% of Putnam's funds below industry-average expense ratios for their Lipper peer groups (see MME 2/2/04, 2/9/04).

Imposing View

"Spitzer is using the leverage that he has in prosecuting or settling these situations with particular fund families to impose his view on fees, which is that they're too high," said Don Cassidy, a senior research analyst with Lipper, headquartered in New York. "The interesting thing is, the list of fund companies that is likely to have situations to deal with probably has not yet been fully revealed."

Indeed, there are sure to be more settlements to come as investigators sift through mountains of documents for fund families one at a time. In December, SEC enforcement chief Stephen Cutler said that maybe 40 out of the 88 fund firms that had received subpoenas had some explaining to do, and so far, only about 20 of these have been investigated. As well, MME calculates that Spitzer has wrestled $1 billion in settlements to date -- a mere one-tenth of the $10 billion in settlements he has vowed to obtain.

Not surprisingly, Mosaic says its move was not motivated by Spitzer or the settlements, but instead by its ability to achieve economies of scale in its fund. Today, assets in the fund, the firm's largest and oldest, have jumped to $134 million from $30 million in 2002.

"This was in place long before the scandals broke," said Larry Tabak, vice president of Mosaic Funds. "There are folks in the business that are doing consumer-friendly things, and it's not often mentioned." Tabak added that Mosaic would consider lowering fees at other funds if they gain similar economies of scale, though he said their fees are generally below the industry average.

Still, the more fund families lower their fees, the greater the pressure will be on others to do so. "If you have a number of firms that were involved in various kinds of wrongdoing being forced to lower fees, that lowers the competitive bar for those who did nothing wrong," said Lipper's Cassidy. "Everyone likes to be able to say they're below, or not far above, the industry average." Currently, the equity fund average, based on dollar-weighted assets, is about 0.99%, but this should come down, he said.

The Investment Company Institute, the mutual fund's lobby group, recently released a study alleging that mutual funds charge investors 45% less today than in the 1980s, with average portfolio-management fees falling to 1.25% in 2002 from 2.26% in 1980. But some counter that this is only a reflection of what kinds of funds investors are choosing, rather than what funds are charging. The ICI's average is asset weighted.

"It's not because the fund industry is lowering fees. It's that investors are choosing lower-cost funds, which is a different argument," said Morningstar analyst Chris Davis.

The ICI also claims that the drop in sales loads and expense ratios has been countered by a hefty rise in so-called 12b-1 marketing and distribution fees. But these marketing fees may be on their last legs. A bill currently in Congress would ban 12b-1 fees, as well as soft-dollar arrangements, revenue-sharing and directed-brokerage practices. It would also require the standardization of all categories of fees, expenses, loads and charges borne by fund shareholders.

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