The Securities and Exchange Commission, rather than Congress, will take charge of reforming the $7.6 trillion mutual fund industry, and is working on new rules aimed at restoring investor confidence that will be ready by early summer. John Nestor, a spokesman for the SEC, said mutual fund reforms were the agency's top priority, and Chairman William Donaldson has been making the case that the regulator should take the lead in revamping the industry, rather than ceding authority to Congress. Legislators had taken a rare bipartisan approach to fixing the mutual fund industry in the wake of the market-timing scandal, with the House of Representatives passing a bill by a wide margin and at least three proposals circulating through the Senate Banking Committee, which concluded extensive hearings on industry reforms earlier this month. "I think we were all shocked to discover the complicity of certain elements in the industry in condoning widespread unethical and illegal practices," Donaldson said in a recent speech. "As I testified before the Senate Banking Committee ... I think we have all the authority we need to move our rule-making agenda, and the leadership of the committee seemed to agree that additional legislation is not necessary at this time." He said the SEC is pushing for rules requiring far-reaching compliance policies, restrictions in the ways soft dollars can be used by investment advisers, codes of ethics for registered investment advisers and effective rules on settling mutual fund share prices at the end of the trading day. Donaldson's visibility and strong words since the conclusion earlier this month of mutual fund reform hearings by the Senate Banking Committee is a clear sign that the SEC is asserting its authority and trying to reform the mutual fund industry through rule-making, rather than waiting for Congress to pass new laws, a more time-consuming and potentially volatile process, said analysts and industry observers.
Lawmakers have been poised to impose changes since the mutual fund market-timing scandal emerged last fall; a bill sponsored by Rep. Richard H. Baker (R., La.) that would overhaul industry practices overwhelmingly passed the House of Representatives last November during the heat of the scandal. Donaldson's midmonth testimony to the Senate Banking Committee, chaired by Sen. Richard Shelby, (R., Ala.), capped weeks of hearings on mutual fund reforms, though the Senate has yet to formally debate any legislation. But analysts and observers said Donaldson's recent assertions show that lawmakers are backing off, at least for now, and letting the beleaguered SEC take the lead in stepping up the pace of reform. The agency
recently passed rules requiring mutual funds to deter market timing through increased disclosure policies, and has increased its prosecution of wrongdoers, bringing 679 enforcement actions last year, the most in its history, according to Donaldson. Because its reform priorities are similar to those of Congress, the SEC is getting the chance to recover from the battering its reputation took as the mutual fund scandal unraveled. The extent of the scandal, and the fact that it was uncovered mainly through New York State Attorney General Eliot Spitzer's investigations, was a blow to the SEC, which was still recovering from the forced resignation of Donaldson's predecessor Harvey Pitt in late 2002. If nothing else, the agency is acutely aware of Congressional attention and has managed to turn that into a 12.5% budget hike this year, with $18.7 million slated to expand its staff, including lawyers and inspectors for its enforcement division, to further a shared reform agenda. "I think a lot of what the SEC is considering had its first iteration in the Baker Bill, so Chairman Oxley will not be disappointed in its outcome," said Peggy Peterson, deputy staff and communications director for the House Committee on Financial Services, chaired by Rep. Michael Oxley (R., Ohio). "If you could have your druthers, I think the Baker Bill would be our preference."
But David Tittsworth, executive director of the Investment Counsel Association of America -- a trade group that represents investment advisers, mutual fund managers and hedge fund managers -- said that regardless of who changes the rules, the nation's 8,000 registered investment advisers will see major changes in the way they do business. The SEC's agenda is substantially similar to the reforms considered by the Senate committee and the House bill, and the new rules will affect the same aspects of the investment industry, he said. "I think that some people are pooh-poohing this, and saying that the Senate deferring to the SEC is a horrible thing," he said. "But these are revolutionary changes and not just window dressing. Anyone who thinks otherwise is just kidding themselves. I think the Senate Banking Committee did the right thing." He said putting the new rules into practice will be costly and time-consuming for investment advisers. The biggest change, he said, will be restrictions on how soft dollars -- investor proceeds that an adviser can put toward expenses like independent research -- can actually be used. Crystal Mingione, a government affairs analyst with the Susquehanna Financial Group, said Congress might still step in, but only if more wrongdoing comes to light. "If there's another scandal in the next couple of months, then there will be a catalyst for Shelby to move on legislation."