Mutual Fund Monday - Beverly Goodman

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SEC Wants Investors to Understand Funds Better

Beverly Goodman

The Securities and Exchange Commission wasted no time last week as it moved ahead with new disclosure rules for the $6.2 trillion mutual fund industry a day after the White House announced that William Donaldson would succeed departing SEC chairman Harvey Pitt.

Pitt, who resigned in November after a series of political missteps, had already touted the new disclosure rules as a boon for individual investors.

The changes the SEC proposed are aimed at helping mutual fund investors get more detailed -- and immediate -- information as to the portfolio's makeup. The proposal has five parts -- three of which aren't terribly controversial, one will elicit nothing but a big yawn and the other has the fund industry very skeptical.

The three core proposals are designed to help individual fund investors understand and process the information that the fund companies send out in their annual and semiannual reports.

For instance, funds would have to directly send investors a semiannual report that lists their most significant holdings. But not only will that summary of the top holdings be required, the additional information also has to look pretty. The proposal states that the fund companies must provide charts and graphs of the holdings, labeled with identifiable categories, such as industry sector, credit quality or maturity date.

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Another piece of the proposal requires mutual funds to disclose shareholder fees in dollar amounts rather than a fixed percentage of fund assets. That's an important distinction from what's currently in place -- the new expense projections will calculate the dollars an investor paid to get a certain level of performance. That's a far better measure for individuals to measure how much they're paying for management.

The proposed rule change that has the mutual fund industry kicking up a bit of a fuss is an increase in the frequency that funds would have to report their holdings to the SEC. The proposal would require funds to disclose their complete portfolio holdings to the SEC quarterly -- currently they have to do so just twice a year. The funds would have 60 days after the end of the quarter to submit the reports.

"We still have some concerns about the increased frequency of the portfolio holdings," says Chris Wloszczyna (pronounced Wazena), a spokesperson for the Investment Company Institute, the lobbying arm of the fund industry.

The primary concern is that traders, such as arbitrageurs, hedge funds, day traders and other opportunists, could use that information to trade against the fund -- which would cut into a fund's ability to get in or out of a stock at the best price.

"We're not clear that the benefits of mandating the additional disclosure would outweigh the harm that could be caused," Wloszczyna says. "But we'll look into it."

Quarterly reporting with a 60-day grace period may not sound like much of an opportunity for front-running, but most funds -- especially the larger ones -- do take quite a long time to build up and wind down positions.

Pitt has downplayed that notion, saying that more than 70% of funds already report quarterly holdings to databases, such as Morningstar's.

And just in case you're wondering, the big "so what" element of the proposal simply mandates that shareholder reports include the manager's assessment (in the form of a letter or column) of the fund's performance. While virtually all funds include a statement from the manager in their annual and semiannual shareholder reports, this proposal simply codifies that practice.

The public will have 30 days to comment on the proposals before the SEC decides whether to adopt or change them.