May 10, 2004
May 10, 2004
Jonathan G. Katz, Secretary
Securities and Exchange Commission
450 Fifth Street NW
Washington DC 2054900609
Re: File No. S7-11-04
Mandatory Redemption Fees for Redeemable Fund Securities
Dear Mr. Katz:
I am grateful for the opportunity to provide my comments with respect to the proposal by the Securities and Exchange Commission Amendments on Mandatory Redemption Fees for Redeemable Fund Securities S7-11-04.
Let me first state that I welcome and appreciate the Securities and Exchange Commissions attempts at reform in the mutual fund industry. The abuses uncovered over the past year have certainly caused great concern in the investment community regarding the viability of investing in mutual funds. Hopefully, with the help of the SEC regarding mutual fund disclosure, transparency, fair valuation, and enhanced enforcement of current regulation, those concerns will be allayed, as mutual funds can play a significant and important role in investing, especially among individuals.
However, I would caution the Securities and Exchange Commission against over-regulation, especially where it would result in consequences contrary to those intended. The abuses which took place perpetrated by a relatively select and privileged few were enabled by mutual fund companies who had all the tools necessary to combat them if they had chosen to do so. Any new regulation should target the abusers, not the approximate 95 million law-abiding mutual fund investors. Mutual fund reform should be aimed at preventing mutual fund companies from committing or allowing transgressions, not hamstringing the investing public, which I believe to be the case with the Mandatory Redemption Fee Proposal.
The idea behind a redemption fee is that funds should be reimbursed for the costs of executing short-term trades. All of the studies I have seen Greene-Hodges study in the Journal of Financial Economics, Janus study, etc. indicate that the added costs to the fund as a result of the short-term trades are anywhere from nil to 0.1. Thus the mandatory 2 fee becomes a punitive fee, not a compensatory fee, and goes right into the fund assets, generating profits, upon which, furthermore, a mutual fund can charge management fees. That sounds to me like a boon for the mutual fund companies. Who is being reformed here?
Several other problems with the proposal occur to me. Regarding the 5-day holding period, the perpetrators of the rapid-trading not market-timing schemes were basically taking advantage of an arbitrage situation due to stale prices. In the event that an arbitrageur can take advantage of a price irregularity, surely market forces would drive prices back in line, probably within 1 day. Therefore, why would any arbitrageur want to hold a position for up to 5 days if the price adjusts after 1 day? The 5-day period appears to be just as arbitrary as, say a 30-day, or 90-day holding period.
Lastly, this Mandatory Redemption Fee Proposal shifts the rights of investors directly into the hands of the very industry being reformed. Instead of continuing the industry trend of providing investors with more flexibility and control over their investments, this proposal would charge investors a fee to access their own money. Whether due to an unforeseen emergency or simply the case of an investor practicing risk management with their life savings, this proposal would diminish liquidity and raise costs for an investor trying to reclaim their own money. Again, to the benefit of the mutual fund companies, from among whom the transgressors operated.
Mutual fund companies already have the ability to institute redemption fees if they so choose. They could have prevented the rapid-trading and late-trading if they would have only enforced the rules already on the books. Along with added fund transparency and disclosure, fair-valuation pricing would eliminate the types of abuses that were committed. There are already fund companies that practice fair-value pricing and that eliminates the potential for arbitrage.
Thus, while I certainly welcome any Securities and Exchange Commissions attempts at achieving greater transparency, fairness and governance in the mutual fund industry, I urge restraint on behalf of the SEC on the issue of redemption fees.
Thank you for permitting me to submit my opinions for review.
Very truly yours,