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Monday May 24, 04:54
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`Culture’ Problem Still Threatens Funds
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Mutual funds look ready to emerge from an ethical and legal train wreck in amazingly good condition.
Not unscathed, mind you -- the fund business is banged up for all to see from the scandals that hit more than eight months ago. Various fund companies have been assessed more than $2 billion in penalties, with additional fines and give-ups expected. More than 80 executives have jumped or been pushed from their jobs.
A raft of reform proposals is pending at the Securities and Exchange Commission. Gone forever is the funds’ long-time boast of an unsullied record and reputation.
But those are mere scratches and bruises compared with the damage that might have been. The funds could have lost the confidence of legions of customers, rather than enjoying a new surge of assets to record highs above $7.6 trillion in early 2004.
They could have faced draconian reforms from Congress, which drafted a barrage of bills. Instead, ``At this point it looks like there will not be legislation this year,’’ says Matthew Fink, the retiring president of the Investment Company Institute.
Even so, the 63-year-old Fink, who spent 33 years at the trade group, says the turmoil could just be beginning if the funds don’t completely clean up their act.
Lost Bearings
At the ICI’s annual convention in Washington this week, Fink said, ``I don’t have a full answer’’ to how so many in the business went so wrong. The impetus was partly greed, he suggested, and partly arrogance, and partly the result of an understaffed and underbudgeted SEC.
Beyond that, he said, ``There has been some kind of cultural erosion. That is what scares me.’’
Mutual funds have thrived because they are widely seen as the best deal yet for individual investors. In large part because of a unique structure set forth in a 1940 law, they were less susceptible to abuses than other financial vehicles.
While human nature was still human nature, investors in the best-run mutual funds felt they got a pretty fair deal. As in most business success stories, a happy customer was the secret of that success.
``Underpinning it all was this record of integrity, of putting investors first,’’ Fink said. ``That’s why the recent scandals have been so horrifying.’’
Case to Make
Any further allegations of misdeeds, Fink says, and it will be open season on the funds. ``If we have more cultural breakdowns, bad things will happen,’’ he said.
The funds’ future hangs not only on their staying clean, but also on their ability to sustain a general perception that they earn their keep in society, adding at least as much value as their managers receive.
A significant body of critics asks whether active fund management can ever really be worth its cost in the world of the 21st Century -- or whether the public wouldn’t be better off with cheaper alternatives such as exchange-traded funds pegged to market indexes or Internet-based do-it-yourself investment portfolios.
At this week’s meeting Fink told of a recent conversation with a congressional staffer who asked him how the fund industry would be affected by rule changes that were up for consideration.
Commoditized
``Nothing right away,’’ Fink recalls replying. ``But over time entrepreneurs will stop entering the business, many good managers will leave, and you will dumb down and commoditize the whole business.’’
According to Fink, the staffer replied, ``That’s exactly what we want to do.’’
The anecdote frames the issue nicely. While trying to win back trust, mutual fund managers as a group also face the long- term challenge of justifying their very existence. It’s a political question as well as an economic one.
For now, Fink and the ICI have scored a political victory just before his retirement. The funds are much happier to be awaiting their ration of new rules from the SEC, where they feel their point of view is at least understood, than from a less sympathetic Congress.
That’s only one battle. ``There will be ongoing intense scrutiny of our industry,’’ said Paul Schott Stevens, the 51-year- old Washington lawyer who succeeds Fink as ICI president. Not much room in that picture for any more ``cultural’’ lapses.
(Bloomberg)
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