Funds Notebook: PaineWebber Brokers Raise $2.1 Billion for New Fund

Also, reading the fine print on fund redemptions as Y2K nears.
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raised a record $2.1 billion for a new mutual fund during a recent six-week subscription period, a dramatic demonstration of the enduring power of old-school broker networks.

At the end of the subscription period, during which investors reserved shares in the new


fund prior to launch, it had more money than 88% of other large-cap growth funds, according to Chicago fund-researcher



PaineWebber, which offered the fund exclusively through its 7,000-broker network, promptly closed it to new investment when the subscription period ended Nov. 29.

The brokerage says the launch's success highlights its clients' hunger for the fund. But it also spotlights some of the ongoing sales advantages large brokerages have despite the rise of the Internet and of no-load funds, which are sold without brokers and commissions.

One of those advantages is a practice called reallowance, which boosts commissions to give brokers an extra incentive to sell a fund. (See our earlier story on


PaineWebber brokers got an extra 0.25% on top of their regular commission to sell the Strategy fund's class A shares. That's an extra $125 for each client that invests $50,000. (The fund has several share classes, each of which represents a different method of paying the sales commission. Class A shares represent about 25% of the fund's sales.)

Critics say such a bonus payout can motivate some brokers to focus on the higher commission, rather than the needs of clients.

"It can't be that every single one of these brokers thought this was the best product available," says Frank Armstrong, a fee-based planner and president of

Managed Account Services

in Miami and former broker. "If you raise $2.1 billion in a fund with no record, it would be naive to believe there's no conflict of interest."

But Brian Storms, president of

Mitchell Hutchins

, which will act as the fund's adviser, says the extra payout simply helps PaineWebber make the fund stand out in a crowded market.

Reallowance "makes perfect sense here, because it created a focus on a single product that's new to the market," adds Steve Gibson, chief executive of the $62.7 billion

Liberty Funds

, which sells funds both directly and through brokers and has offered reallowance in the past.

The Strategy fund will hold, on average, 25 stocks highlighted by PaineWebber chief strategist Ed Kerschner. These are usually stocks that PaineWebber analysts rate "buy" or "attractive."

Fund filings say Kerschner's picks have beat the

S&P 500

index by more than 9 percentage points on an annual basis since 1988. But the fund itself has no track record, and the performance figure doesn't account for the impact of the fund's sales commission and expenses.

Class A shares, for example, carry a 4.5% sales commission and 1.25% annual expenses. Other share classes have different commission structures and 2% annual expense ratios. The average large-cap growth fund carries 1% annual expenses, according to Morningstar.

The Fine Print on Y2K Redemptions

For skittish investors with Y2K nightmares dancing in their heads, this year's scariest read might be a mutual fund prospectus, not a

Stephen King


Read the "How to Redeem Shares" section of a prospectus -- usually not riveting stuff -- and you'll find it might not be so easy to get your money out of a fund if the market plummets due to Y2K or some other disaster.

Fund companies are typically required to cut you a check within seven days. But if an emergency halts or restricts

New York Stock Exchange

trading, for example, and you want your money back, the

Securities and Exchange Commission

can allow a fund company to suspend redemptions.

You'll also find the prospectus allows a fund company to send you portfolio securities instead of a check, a practice called redeeming "in kind." By sending investors stock certificates instead of cash, fund companies avoid having to sell securities in a sinking market, thus punishing those investors who hold on to their fund shares. (For more on in-kind redemptions, see a previous


If you're nervous about Y2K and you're thinking about stockpiling


, toilet paper or cash, this could send you over the edge. But industry insiders and observers say the policies shouldn't rattle you.

"I've never heard of a fund not being able to meet redemptions. These policies are disclosed simply because they're beyond the expectations of most investors," says Pam Wilson, an attorney with the Boston law firm

Hale and Dorr


The last and only SEC-declared emergency that securities lawyers can recall happened in 1987 -- and not because of

Black Monday

, when the

Dow Jones Industrial Average

lost 22% in one day. Rather, it was triggered when the Hong Kong market tanked and shut down. The SEC gave a few Hong Kong-sector funds permission to suspend redemptions until securities could be priced, according to Wilson.

She and colleagues say the odds of an individual investor getting securities instead of cash is slim, too. SEC rules require that during any 90-day period, fund companies must pay the first $250,000 of a redemption in cash.

As originally published, this story contained an error. Please see

Corrections and Clarifications.