In addition, Congress should prohibit funds from
using their assets to compensate brokers for sales of fund shares and should
prohibit fund managers from compensating brokers in connection with sales of
fund shares.
Advertising of funds is good for competition and therefore good for the
investor.
In September 2003, the SEC adopted advertising rules that require that a
statement along the lines that current performance may be higher or lower than
the performance data quoted. But recent fund advertisements have demonstrated
the inadequacy of the new rules. After three years of negative returns, stock
funds had a banner year in 2003. Many of those funds are now advertising their
stellar one-year performance without any disclosure of their poor returns in
2000, 2001 and 2002. Because they are required only to show their 1-year, 5-year
and 10-year returns, the negative returns of 2000 to 2002 are hidden from view.
Investors have consistently chased the best-performing funds just before they
crashed, and dumped the worst-performing funds just before they recovered. This
mentality is only encouraged by the SEC’s current approach to fund performance
advertising, which permits funds to present outsized returns with no meaningful
caveats regarding their volatility and the likelihood that performance will soon
revert to its mean.
There is a light at the end of the proverbial tunnel.
The light at the end of the tunnel appears to be an oncoming train.
Reform is politically driven. Commissioner Paul Atkins always says he is
open-minded, but he has at least twice voted against even releasing proposals
for comment. SEC Chairman William Donaldson at least shows some individuality in
thinking what is best for the investor and economy. Republicans pushed for more
meaningful reform in the House, but opposed it in the Senate. These issues are
going to keep coming up, and will not go away. Ultimately, congressional action
will be necessary.
Fund Democracy was never intended to be a full-time job,
but the scandal and flurry of rules have almost turned it into that. My purpose
in founding it was to provide more technical aspects of mutual fund regulation.
Consumer groups lack that technical expertise, and I thought I could fill that
gap. The result is that there are now letters going to Congress and the SEC
about mutual fund reform that might not have been sent before.
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