In response to the ongoing mutual fund scandal, more fund companies are levying short- (and not-so-short) term redemption fees in an effort to keep destructive hot money at bay. And scandal-tainted fund families happen to be leading the fee-hike bandwagon.
The irony is that the practices of a scandal that cost fund investors money will be partially rectified by charging investors more money.
Don't get me wrong, redemption fees are the only fees that generally help longer-term investors. Redemption fees are not back-end loads or sales commissions. Unlike loads, redemption fees are left in the fund to offset the financial burden redemptions can cause to other shareholders.
All Redemption Fees Are Not Alike
The fee usually applies when redemptions are made within a short time after purchase, often one to three months. Occasionally the fees apply to longer periods of time.
Vanguard Capital Opportunities (VHCOX), for example, has a 1% redemption fee for sales made within five years. Vanguard Emerging Market Index (VEIEX) has a 0.5% redemption fee that never disappears (on top of a 0.5% purchase fee). The Bernstein Emerging Markets Value fund (SNEMX) has a 2% purchase fee
a 2% redemption fee that never goes away. According to Financial Research Corporation, there are just 26 funds with perpetual redemption fees. Of the 19% of funds that have any redemption fee, about 80% charge redemption fees for sales within thirty, sixty, or ninety days of purchase. The average redemption fee is 1.54%.
Fund companies love charging redemption fees because it helps fund returns. This is especially true when redemption fees exceed the actual cost of shorter-term investing to the fund. Performance numbers drive the marketability of a fund and redemption fees can only add to quoted returns.
Even the Investment Company Institute -- the mutual fund trade association that looks out for the best interests of member funds -- wholeheartedly endorses redemption fees. Now that the environment is redemption fee friendly, many are stepping up and adding new fees.
Janus Policy Change
Starting March 1, Janus -- a fund family in hot water for embracing the needs of market-timers -- will jack up redemption fees to thwart market-timing even though Janus will maintain a clause that lets it selectively waive the fee when it's in the best interest of the fund, whenever that is.
Janus funds that currently levy a short-term redemption fee of 1% for shares held less than three months will see the fee jump to 2% for the same time period. This fee hike applies to Janus Global Opportunities Fund (JGVAX), Janus Overseas Fund (JAOSX), Janus Worldwide Fund (JAWWX), Janus Risk-Managed Fund (JRMSX), Janus Global Life Sciences Fund (JAGLX), Janus Global Technology Fund (JAGTX) and Janus High-Yield Fund (JAHYX). Janus funds that do not currently charge a redemption fee will not add one yet, but that may change soon.
But what if you buy one of these Janus funds in February before the fee increase and sell in April? Do you pay a 1% or 2% redemption fee for this hypothetical short-term trade?
There was confusion among Janus representatives over this question. One claimed the fee hike is not retroactive -- old investors are grandfathered in at 1%. Another rep, who even double checked, said investors most definitely are liable for the 2% redemption fee even if they bought in February; thus there is no grandfathering at the 1% rate.
The prospectus confirms the first representative's claim -- that the fee increase is not retroactive to whenever you bought shares. If it were retroactive, the fee increase would effectively be a bait and switch: buyers of a fund with one fee structure get switched into another. Specifically, the Janus prospectus claims: "Effective March 1, 2004, the redemption fee will increase to 2.00% on shares purchased on or after that date."
If an investor buys any Putnam fund on or after April 19, 2004, and sells within five days, they'll get slapped with a 2% redemption fee. Putnam, a unit of
Marsh & McLennan
and one of the bigger scoundrels in the market-timing racket, has yet to get slapped with fines by the
Securities and Exchange Commission
for its transgressions.
Investors in any Franklin Templeton fund on or after March 1, 2004, will get hit with a 2% redemption fee if they sell within 30 days.
, parent of Franklin Templeton funds, was just charged by Massachusetts regulators and faces SEC action for its nefarious market-timing activities.
On June 27, 2003, Vanguard added short-term redemption fees to nine foreign funds. The 2% fee applies to withdrawals made within two months of investment and did not apply to investors who purchased before June 27. Vanguard has not been implicated in the market-timing scandal.
Current Regulations Limit Redemption Fees To 2%.
This exemption from the fee hike is not out of the kindness of any fund company's hearts. When you buy a fund you are buying the fund described in a specific prospectus in detail. While it is relatively easy to change rules that apply to new investors (like raising the minimum investment) because you can show them a new prospectus or prospectus amendment for their potential investment, making changes that apply to existing investors, like changing the management fee, can be more difficult and require shareholder approval.
Keep in mind, redemption fees won't do any good in the war on market-timing if they are not enforced. When you buy a fund you are buying the fund described in a specific prospectus in detail. While it is relatively easy to change rules that apply to new investors (like raising the minimum investment) because you can show them a new prospectus or prospectus amendment for their potential investment, making material changes that apply to existing investors, like changing the management fee, can be more difficult and require shareholder approval.
Adding another scoop of redemption fees on to the investments of Joe Main Street sidesteps the real issue.
Jonas Max Ferris is co-founder of MAXfunds.com, a fund research and analysis company, and partner in an investment advisor offering managed accounts in mutual funds. He welcomes column critiques, comments or baseless accusations at email@example.com.