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Articles by Fund Democracy: Archives

Role Reversal, Investment Advisor (Oct. 2000).

Abstract: With Republicans in control of Congress, and a Clinton-appointee running the Securities and Exchange Commission, one should expect differences surrounding the direction of securities regulation. But who would guess that Congress would lead the call for regulatory reform, with the SEC dragging its feet?

This reversal of roles is being played out on the field of mutual fund regulation, specifically, disclosure of after-tax returns. In March 1999, Rep. Paul Gillmor (R-Ohio) proposed legislation ordering the SEC to require mutual funds to disclose their after-tax performance returns. One year later, the SEC finally responded by proposing rules requiring mutual funds to include after-tax returns in their prospectuses and annual reports.

The SEC's proposal has received enthusiastic support from dozens of investors and enjoys broad industry support. But the devil is in the details, and that's where the Commission's proposal is taking a lot of flak. The most common objection to the SEC's proposal is that it will turn the three-headed risk/return summary into a 12-headed Hydra. Currently, funds include standardized one-, five- and ten-year before-tax returns in the summary. The SEC proposes to require a second set of before-tax returns, plus one set each of pre- and post-liquidation returns.

The SEC resolved most major issues the right way, but it needs to make some changes for the rule to work. Most important, it should require that funds disclose realized gains and received income on an ongoing basis, so that investors will not be blindsided by surprise distributions. The SEC also should clarify that funds must include after-tax returns in their ads when those returns are materially different from their pre-tax returns. (The full text of this article is available to Investment Advisor subscribers.)