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Commentary: Wanted: Shareholder Rights For Mutual Funds

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It's not easy finding fault with mutual funds. The dozen I own have spared me countless hours on the telephone with brokers. Funds also strengthen society by giving more Americans--some 63 million, at last count--equity in the economy. Perhaps most impressive, in recent decades the fund industry has suffered only the occasional scandal even as assets mushroomed. Holdings have quadrupled since 1990, to $4 trillion.

And yet, mutual funds have some expensive flaws. Most disclose their portfolio holdings only twice yearly, as required by a 57-year-old law. That makes it hard to know just what you're buying. Also, because they don't pay much attention to the tax effects of their trading, they do a crummy job of minimizing investors' tax bills. Worst of all, funds charge too much. In recent years, despite growth, expense ratios have risen (table). "Don't you think there are some economies [of scale] that ought to be passed along?" wonders Edd H. Hyde, president of Radnor Financial Advisors Inc., near Philadelphia.

WISH LIST. Hyde and 70 other independent investment advisers, representing $12 billion largely invested in mutual funds, have launched a drive for better treatment. In what could be the beginning of a shareholders' rights movement for owners of mutual funds, they sent a letter on Aug. 5 to about 100 of the nation's leading fund companies. Their wish list: more-frequent disclosure of portfolios, more attention to after-tax returns, and some discounting of fees and expenses they pay on accounts that are often in the millions.

The advisers have asked for replies by Sept. 8, and the debate they're setting off should be healthy for mutual-fund investors. But don't expect immediate relief from industry leaders such as Fidelity Investments and Franklin Templeton. So figures Jack K. White, head of Jack White & Co., a discount broker specializing in funds. "The money is rolling in," he says of the funds. "Why reduce your margins?" Fidelity and Franklin declined comment on the letter.

If the fund companies' responses fall short, the advisers threaten to do more than simply cash out of stubborn funds. Some in the group, including Peggy M. Ruhlin, of the $325 million Budros & Ruhlin Inc. firm in Columbus, Ohio, say that if they don't get satisfaction, they'll begin proxy contests. "If we vote against management," says Ruhlin, "they're going to have to pay attention."

The activist advisers admit that they're out for themselves and their well-heeled clients. But this dispute promises to address the central problem with funds: the weak link between investors and the independent directors on every fund's board. By law, those independent directors are supposed to look out for investors' interests, not the company's.

APATHETIC INVESTORS. Yet in practice, "There's often a cozy relationship between the board and the management company," notes Joe Mansueto, chairman of Morningstar Inc., the mutual-fund rating service. Morningstar found a striking correlation between high trustee pay and high fund expenses.

Apathy on the part of investors also helps keep the status quo. Vincent Di Costa, a senior vice-president at proxy solicitor D.F. King & Co., says that proxy participation at mutual funds runs 15 to 20 percentage points lower than in corporate votes.

But imagine what a few high-profile proxy contests might do to shake up such chummy arrangements. Much as institutional shareholders, led by the California Public Employees' Retirement System, have rattled corporate boards, so might these advisers put mutual fund directors on notice. And fund expenses are a fat target for activists. Given the persistently high level of expenses, it's not hard to argue that directors have failed in their duty to shareholders. So, the harder these 71 investment advisers press their case, the better off all mutual fund investors are likely to be.By Robert BarkerReturn to top

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