Verbatim: Regulators Need to Keep a Sharp Eye on Fees

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Consolidation was a hot topic at the annual mutual fund and investment management conference in Orlando last week, sponsored by the Federal Bar Association and the Investment Company Institute Education Foundation.

Barry P. Barbash, head of the Securities and Exchange Commission's division of investment management, set the tone for the event when he revealed that his unit gets merger-related applications at the rate of about one a week. The following is excerpted from Mr. Barbash's keynote address, in which he discussed the impact of consolidation and globalization on the mutual fund industry:

Investors pay for investment advice, whether it comes in the form of a mutual fund, a wrap fee program, or a broker. How much an investor pays for the services of a financial adviser or investment manager appears to be somewhat less of a concern, when she may do more comparison shopping for a VCR than for a mutual fund.

The observation that "most investors are blissfully unaware of how much they are paying for the privilege of owning a mutual fund" may not be an overstatement. A 1996 OCC/SEC survey concluded that fewer than one American in five knows how much her funds charge. It seems that, when economic times are good, investors think they can afford to be oblivious of these costs.

Investor attitudes toward fund fees are likely to change, however, should fund performance decline. At some point, a consolidating fund industry may be faced with a penny-pinching financial services consumer and will have to tailor fees and other aspects of its business to accommodate this change. I think that I can safely predict that a spotlight will be on expenses related to the distribution of fund shares. Distribution-related expenses always have been, and always will be, a sensitive issue.

One consequence of consolidation is that it may reduce the number of distribution channels available to funds, giving distributors greater market power, and potentially make fund access to investors, and investor access to funds, more expensive. The question then will be how much the industry needs to spend on distribution services and where it will find the necessary resources.

Will investment advisers, for example, find more of their financial and managerial resources being devoted to distribution and less being focused on basic portfolio management? How will investors react to these developments? Will their expectations concerning fund performance- expectations that have been raised by the greatest bull market in history- continue to be met?

We already have a preview in the 401(k) plan market of how the issue of fund fees may play out. …