June 21, 2007
I was able to watch some of the 12b-1 hearings on Tuesday. I was dismayed by the apparent opinion of some that mutual fund "distribution" was a one time event. Paul Haaga said it best when he made the comment about mutual funds are not a product like a sofa but an ongoing service. Most responsible financial experts agree that investors are best served by buying and holding mutual funds for the long term. Market timing, chasing returns, investing for short periods of time will not lead to successful investing. I do not consider my job as a financial professional done after the sale is complete. When an investor gets worried when he hears that "stocks plummeted today" on the news, when he reads that precious metals fund XYZ returned 35% last year, when he hears a coworker talk about making a 50% gain in a week on a speculative stock and he wants to get in on the action, when his excessive spending lands him in trouble and he is considering selling his fund to bail himself out, I'm the one he calls. 12b-1 fees pay me a modest amount (about $20 per year on a $10,000 investment) to be the clients sounding board, coach and confidant. Much like a service contract (that doesn't expire) I may not be needed for many years but I am there when they need me. Do some in my profession seize the opportunity to make a new commission? Sure, but paying us any less for encouraging the client to stand pat would not help matters. If 12b-1's were eliminated the unintended consequences would be terribly harmful to small investors and the large percentage of the investing public that are not financially savvy. Two things would happen; 1. Brokers would ignore their smaller clients. After all, they would no longer be clients but merely someone they once made a sale to. They would become fee based advisors and seek out only the larger investors who qualify for advisory accounts and they would impress upon them the need for a sophisticated asset allocation service to justif y a 1% fee. And/or 2. They would increase their attempts to find fault with investors' current mutual funds and make the pitch to switch to a new/better investment with the attendant front end commission. A third possibility is that they would institute an hourly fee and try to charge clients for every 15 minute phone call. (not efficient, not practical, not appealing to the customer) Once again the small investor would not make out well.
On C shares; they work very well for certain investors such as smaller investors who don't qualify or need advisory accounts and who don't qualify for substantial breakpoints on A shares. Also there are many investors that just do not have the patience to stay invested in a mutual fund through periods of underperformance or are just not willing to pay a large up front load when they may change their mind and switch funds in a few years. In those instances C shares are simply a better fit. The client may prefer to pay the extra .75% per year for C shares rather than up to 5.75% up front. If some unforeseeable event causes the investor to sell before five or more years then he has paid less with C shares. Is there really a problem if the broker is willing to accept foregoing 80% of the up front commission on the front end, has the conviction of his belief in the funds that he is recommending, belief in the market, is willing to service the client well to increase the chances of the client staying invested and is willing to take the chance that the investor will stay invested for the 5, 6, 7 or more years it will take before he ekes out a greater cumulative commission? Aren't all parties to the transaction better off if the investor is still invested 10 years from now?
In summary please don't totally overhaul what only needs perhaps a minor tune up and be very careful of unintended consequences.
Sincerely,
Karl Hambrecht
Registered Representative
Royal Alliance Associates