February 12, 2008
Please add, as a public comment, the below email on 12b1 fees:
To whom it may concern,
I would like to address issues that should be taken into account, before making changes to the current 12b1 fees, being paid to brokers, on mutual fund accounts. I have been a broker for over 26 years and have gained a great deal of insight into the pro's and con's of the current system. No system is perfect, however I believe the current one is fair, and it offers consumers alternatives to other compensation arrangements, without giving up services.
The current 12b1 charges are usually between .25 and 1.00 percent of the amount invested, and are disclosed to investors in every prospectus. Portions of these charges are used to compensate the selling, and servicing representative for the many hours spent during each year maintaining contact with a client, explaining market volatility, economic reports, and how these impact the clients holdings, filling out the multitude of forms required each time the client wishes to make account changes, (ranging from beneficiary's, address corrections, name changes (divorces, trusts, deaths, gifts), and fund allocations changes). In addition to the hours spent meeting with the fund company representatives, performing the proper information gathering from each organization. These 12b1 fees provide the consumer with ongoing support from the representative, without the rep being under any pressure to "produce" trades, for compensation, to cover the costs of doing business for that consumer. It is a fair arrangement. The consumer is getting quality service, and the representative is being compensated for his time and his expertise.
If the 12b1 rules are changed, many brokers will be "creating" business. I am sure that the outcome of that is not always in the consumers best interests, to say the least. Brokers may abandon the smaller investor accounts (under $100,000.00) due to the lack of efficiency. They may direct them to "mutual fund wrap" programs with higher costs than the current 12b1 fees. The larger accounts will most probably be turned into "brokerage wrap" advisor accounts, (with compensation fee's in excess of 1.25 percent). These clients may then be sold holdings that they never would have entertained, with potentially higher risks, so brokers can justify the higher fees being charged. Insurance based products will become "hot" due to the higher compensation. This creates problems for investors of all sizes.
The problem for the small investor is that he will not be serviced! The argument could be made that small investors should be "direct investors" and not use a broker at all, however the reality is that most small investors need more guidance than larger investors, and eliminating or capping the 12b1 fees will hurt the small investor most! Brokers do not run charities, and they incur real, increasing costs of doing business with each client, big or small. To continue to service a smaller account without compensation would be a bad practice for any intelligent broker or advisor. The SEC should be concerned with protecting the interests of all investors, not just the large investor who will most likely be directed to a new advisor "wrap fee" (instead of his old 12b1). The average investor looses if 12b1 fees are reduced or eliminated. He looses both service, and guidance, critical for successful long term investment success.
The problems created for the larger investors are that they will be sold services that offer dubious real added benefits. Many will be converted to wrap type "advisor" accounts with slick statements, and asset allocation models, to hide the fact that they are now going to be paying as high as 1.25 percent each year, on the very same money that they had been paying .25 percent. No unbiased study has ever been completed that justifies the extra fees that these "wrap" accounts are charging. Brokers are using them to increase their recurring compensation, and then creating the extra services to justify the fees! The SEC should be protecting the large investors by maintaining the "option" of compensating a broker solely through the investment product itself, as the 12b1 fee does, without the extra frills of a wrap account. By keeping the option open, brokers can then decide if they would like to compete for that large account as an advisor on a "wrap program", or provide services on the lower compensation of the 12b1 fees. The large investor should have the have the choice of getting service in either way. If 12b1 fees are capped, the large investor will loose that choice. Brokers will only offer the wrap option.
Another issue of great concern is the switching of mutual fund holdings to VA products. There will be brokers who will recommend the Variable Annuity for every client, large and small, because the 12b1 fee is not part of the compensation in a trail paid by insurance companies to VA representatives. It is my understanding that the SEC has been concerned about the sale of VA products in the past few years? You can be certain that if 12b1 fees are capped, or eliminated, that VA products will gain greater attention by brokers who will be converting both large and small investor's mutual fund holdings, into VA's that will pay them 4% up front and a nice 1% trail for life (guaranteed by the insurance company). The benefits to the broker are just to great to overlook, yet the consumer may not always be best served by the VA.
Please contact me if you have any questions on the points of concern I have raised. I have ideas on improviing disclosure of 12b1 fees, and customer payment options. It is my hope that my many years of providing honest, fair, and thoughtful insight into our industry, could be used to help avoid the above problems.
Sincerely,
Richard A. Raff