For those interested
SEC Proposes Mandatory 2% Fee on Rapid Fund Trades (Update1)
The U.S. Securities and Exchange Commission proposed a mandatory 2 percent redemption fee on short- term mutual fund trades to thwart market timing, a tactic at the center of trading abuses in the $7.4 trillion industry.
The plan, given preliminary approval on a 4-1 vote, would require mutual funds to impose the fee on sales of shares owned for five business days or less, with some exceptions such as for investors facing financial emergencies.
``Redemption fees can be an effective deterrent to abusive short-term trades that impose unnecessary costs on long-term fund shareholders,'' SEC Chairman William Donaldson said at a meeting in Washington.
More than 20 mutual fund companies, including MFS Investment Management and Alliance Capital Management Holding LP, have come under federal and state scrutiny for allegedly letting favored clients engage in market timing, rapid in-and-out trades that exploit changed prices in a fund's underlying investments. Today's meeting was the SEC's fifth to tighten fund regulation since the trading scandal erupted last year.
While the SEC vote released the plan for 60 days of public comment, the proposal had limited support among the five commissioners, who must vote a second time on the final rule.
Atkins's Dissent
SEC Commissioner Paul Atkins said his concerns about the proposal were so great that he cast a vote against even seeking public comment.
``Investors should not be unnecessarily taxed by a fund to exit an investment,'' said Atkins, a Republican. He said the mandatory redemption fee was ``a fund tax that will hit the unaware.''
Commissioner Cynthia Glassman, a Republican, said she voted for the plan only to put it out for debate. She called it ``merely a band-aid'' because it doesn't address funds' duty to ``fair value'' their securities, by adjusting prices for shares that continue to trade after the fund price is set. Fair-value pricing may eliminate incentives to market time, she said.
Donaldson, a Republican, said he has ``some reservations'' about the fee proposal. SEC Commissioner Harvey Goldschmid, a Democrat, said the redemption fee was ``not a silver bullet'' but would ``inhibit the abusive timing we've seen by large traders.'' Democrat Roel Campos also voted for the proposal.
Industry Support
The mutual fund industry has supported requiring redemption fees on short-term trades. Matthew Fink, president of the Investment Company Institute, an industry lobbying group, said in a statement today that the proposal is ``an essential step to combat market-timing abuses.''
The SEC's proposal would let funds forgo a fee on redemptions of $2,500 or less and grant waivers for investors facing emergency situations, such as needing to pay for urgent medical care. The SEC plan would require funds to let investors with an emergency redeem shares worth $10,000 or more with no fee assessed.
The SEC's redemption-fee plan also would not apply to money market funds, funds that trade on exchanges and funds that encourage market timing, as long as they tell investors in the prospectus that the trading will add to costs to the fund.
Under the SEC plan, the redemption fees would be put into the fund and not go to fund managers or brokers. SEC officials said about 10 percent of funds already impose redemption fees for short-term trading.
``We see the redemption fee proposal as a `user fee' that the fund should impose on frequent mutual fund traders, so that it can recoup the costs of the frequent redemptions,'' Paul Roye, the head of SEC's mutual-fund division.
Small Investors
Some securities lawyers said the SEC's plan could end up penalizing small investors who aren't market timers.
``You should target the regulation to apply to those who represent a problem, not to those who don't,'' said Richard Choi, a partner at Foley & Lardner in Washington who represents mutual funds. ``To apply this to individual investors doesn't make sense.''
Market timers exploit the fact that a fund's price is set daily after the 4 p.m. market close in New York while the underlying fund investments continue to trade. New York Attorney General Eliot Spitzer and other regulators say the practice often violates stated policies of funds and can raise costs for long- term investors.
Companies including Fidelity Investments and Putnam Investments have added new fees to deter short-term trading since Sept. 3 when Spitzer initiated the fund-trading probe. Boston- based Putnam, which partially settled trading-abuse allegations with the SEC last year, announced plans in January to begin charging a 2 percent fee for shares held less than six days.
Today marks the first time Atkins has voted against one of the SEC proposals for cracking down on mutual funds. At earlier meetings, Atkins approved sending rule proposals out for public comment while expressing reservations about some of the regulatory prescriptions, such as requiring orders to reach a mutual fund by the 4 p.m. market close and insisting that fund boards have independent chairmen.
About half of U.S. households invest in mutual funds.
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