America's Stock-Fund Owners Pay Twice the Fees of Institutions

2003-11-17 03:53 (New York)

Nov. 17 (Bloomberg) -- Americans who own stock mutual

funds are charged annual management fees of about $18 billion,

twice the amount they should be paying according to data shared

by state and federal regulators investigating the industry.

Individuals pay $56 in fees for every $10,000 in equity

mutual funds, double the $28 paid by institutional investors in

stock funds, said John Freeman, a professor at the University

of South Carolina and one of the principle sources of data on

mutual funds for New York State Attorney General Eliot Spitzer.

Mutual funds ``charge whatever they can get away with and

nobody has been stopping them,'' Freeman said in an interview

from his office in Columbia, South Carolina.

Individuals should be paying similar levels of fees as

institutional investors, according to Spitzer, who initiated

the investigation of the $7 trillion mutual-fund industry in

September. Spitzer alleges improper short-term trading of

mutual funds helped push up costs for America's 84 million

owners of stock funds, whose investments are worth $3.2

trillion according to the Investment Company Institute. An

absence of transparency on fees has helped disguise the extent

of the wrongdoing, Spitzer said.

``Many funds have abandoned the interests of

shareholders,'' Spitzer said in a statement to Bloomberg News.

Stock, bond and money market mutual funds have more assets

than the $5.9 trillion in public and private pension funds

combined, and the amount of work involved in overseeing the

different accounts is similar, making it impossible to justify

the fee differential, Spitzer said.

Criticism of SEC

On Nov. 13, Spitzer criticized the Securities and Exchange

Commission's partial settlement in its inquiry of Putnam

Investments because it didn't require the company to admit

guilt. It also didn't address fees charged by equity mutual

funds, which were mostly introduced during the bull market of

the late 1990s when commissions were overshadowed by 24 percent

annual returns of the Standard & Poor's 500 Index.

Boston-based Putnam has been charging individual owners of

its International Capital Opportunities mutual fund $91 per

$10,000 invested. The state of Massachusetts was asked to pay

$27 per $10,000 invested in international stocks.

``Lowering fees is inevitable,'' said William Patterson, a

director of investment at the AFL-CIO, which represents 65

labor unions with 13.2 million members. ``This is all to the

good. This is an industry which had a pass for many years.''

The SEC, along with Spitzer and other state regulators, is

examining whether returns for long-term investors have been

reduced by improper short-term and after-hours trading by

privileged clients. Companies being probed include Putnam, New

York-based Alliance Capital Management Holding LP, Strong

Capital Management Inc. of Menomonee Falls, Wisconsin, and

Denver's Janus Capital Group Inc.

Firings, Suspensions

Disclosures of improper trading have led to the firing or

suspension of more than 40 employees at companies including

Bank of America Corp. and Prudential Securities Inc., and the

ousting of senior executives such as Lawrence Lasser, who

oversaw Putnam for 18 years. Alliance asked for the resignation

of John Carifa, the firm's president for 10 years, for

overseeing a unit that engaged in inappropriate trading. On

Nov. 13, Gary Pilgrim and Harold Baxter, who co-founded Pilgrim

Baxter & Associates Ltd. in 1982, were forced to step down.

So far, there's little evidence of investors abandoning

stock funds. An estimated $5.4 billion per week poured into

equity funds in the four-week period ended Nov. 12, a survey by

AMG Data Services of Arcata, California, said. The pace of

inflows was the fastest since May 2001, following a 19 percent

increase in the S&P 500 Index this year.

Greater Disclosure

Lawmakers including Democratic Senators Jon Corzine and

Christopher Dodd, and Republican Senator Peter Fitzgerald and

Representative Richard Baker, are pushing for legislation

requiring fund companies to more clearly disclose the

commissions that they charge.

``If you really look at the fee structure of the industry,

you'll see that the fees are very high,'' Fitzgerald said at a

Senate subcommittee hearing on Nov. 3. ``We need to fix that.''

Fund companies respond that management fees they charge

include more services, like sending reports to shareholders,

than those charged for pension-fund management.

``The advisory fee includes a bundle of services so you

can't separate out the portfolio management fee that pension

funds pay,'' said John Rea, chief economist at the Investment

Company Institute in Washington, the mutual-fund industry's

trade association.

Federated Charges

Commissions charged by the 25 biggest mutual fund managers

showed that Pittsburgh-based Federated Investors Inc. has among

the highest fees, collecting an average $83 for every $10,000

in its equity mutual funds, according to data compiled by

Bloomberg. Mellon Financial Corp.'s Dreyfus Funds demands $80.

Average stock fund costs aren't ``particularly

meaningful,'' Federated spokeswoman Meghan McAndrew said.

Investors use other factors to pick funds, including analysis

of long-term performance, a money manager's reputation and how

a particular fund fits into an overall portfolio, she said.

The average management fee at Amvescap's Aim Investments

unit is about 0.75 percent of assets invested because a

majority of the firm's stock funds invest in international,

``small-cap,'' and industry-specific parts of the market such

as gold and health-care companies, said spokesman Ivy McLemore.

``The research demands on the fund company are more

strenuous and labor intensive because many of the companies in

the funds' portfolios aren't universally followed by Wall

Street analysts,'' McLemore said.

Lowest Fees

Vanguard Group of Valley Forge, Pennsylvania, charges the

lowest stock fund fees among the 25 biggest companies -- $27

per $10,000 invested, according to Bloomberg data. The

management company is owned by shareholders, unlike most of its

competitors, allowing for lower expenses, said Michael Miller,

managing director for planning and development at Vanguard.

``Small differences in the fees charged can add up to

enormous differences in returns over time,'' Fitzgerald, a

senator from Illinois, told reporters on Nov. 3. ``A basis

point here, a basis point there, may not sound like much, but

when it's multiplied by someone's entire life savings and then

compounded over 10, 20, or 30 years it can add up to an

enormous difference. Investors need to spend some time to try

to search out the lowest-cost, best-managed funds.''

Fitzgerald said lawmakers may draw up legislation to limit

mutual-fund fees. ``We haven't fully thought that through,'' he

said. ``It's something that we've got to consider.''

A proposal from Spitzer that mutual funds put clauses in

contracts with advisory and management companies to prevent the

managers from charging fees above those charged to pension

funds would make ``a whole lot of sense, Fitzgerald said.

``If investors feel the game is rigged, they will avoid

the playing field and park their money on the sidelines,'' said

Baker, a representative from Louisiana, in testimony to a

Senate subcommittee on Nov. 3.

--Aaron Pressman in the Boston newsroom at (1) (617) 338-5822

or apressman@Bloomberg.net, with reporting by Amy Strahan

Butler in Washington, Philip Boroff and Margaret Popper in New

York, Richard Craig in Princeton, and Matthew Keenan and Edward

Baeb in Boston. Editors: Quinson, Roussel, Urban.