As the market-timing scandals recede into financial history, the cautionary practices instituted in their wake could face the same fate.
As the market-timing scandals recede into financial history, the cautionary practices instituted in their wake could face the same fate.
Redemption fees, a deterrent against rapid-fire trading, are slowly being reduced and, in some cases, eliminated. For the fund companies that are taking this course, more-sophisticated instruments exist to help them thwart market timers and arbitrage players.
Courting retirement plan business is more difficult with redemption fees, many are finding.
"We work with quite a few mutual fund wrap programs and 401(k) programs where redemption fees are hard to monitor," said Alan Reid, president of San Francisco-based Forward Management LLC, adviser to the Forward Funds, which removed the fees on all shares of its 14 funds in late November.
"We decided that we're better off opening doors to all those platforms," he said.
In October, The Oakmark Funds of Kansas City, Mo., did away with the 2% redemption fee on its Oakmark Equity and Income Fund, a $13 billion moderate-allocation offering. In late July, Pacific Investment Management Co. LLC of Newport Beach, Calif., either eliminated the fees or shortened the holding period for imposing them.
Mr. Reid said that with the Securities and Exchange Commission Rule 22c-2 now operational, his fund company is able to identify all in-vestors in omnibus accounts such as retirement plans and knows what their trading patterns are. Problematic traders can be excluded without slapping redemption fees on all investors.
"After the history we had in this industry, we need to have our eyes wide open, but that doesn't mean we need to create bureaucratic mechanisms," Mr. Reid said.
This year, all fund companies had to comply with Rule 22c-2, which required them to enter into agreements with financial intermediaries to provide information about underlying shareholder transaction activity.
However, in March 2005, the SEC backed away from barring open-end-fund companies from imposing redemption fees unless they could demonstrate that there was harm to established shareholders. With such weak provisions in place, fund companies are becoming more lenient.
"Redemption fees far exceed the cost to shareholders of having active traders in funds," said Jerry Wagner, president of Flexible Plan Investments Ltd., a Bloomfield Hills, Mich., firm that manages $500 million. "When you see a 2% redemption fee for up to a year, it's hard not to say that that's a gross overreaction."
Mr. Wagner, a tax and securities lawyer, lobbied regulators on behalf of the National Association of Active Investment Managers Inc., a Littleton, Colo., trade group, against requiring redemption fees. He and Peter Mauthe, former director of the organization, think that fund companies have better ways to sniff out timers.
"Whenever we, as an investment adviser, move money into or out of a fund, the mutual fund company of course knows who we are," said Mr. Mauthe, president of Rhoads Lucca Capital Management Inc. in Dallas. His firm's sister company, Rhoads Lucca Capital Partners LP, operates a mutual fund that has eschewed redemption fees since its 2006 launch. "If we see a [trading] pattern emerge, we can close off access to those accounts," Mr. Mauthe said.
Both Mr. Wagner and Mr. Mauthe say that they are more interested in funds that remove redemption fees.
Other investors won't be wooed back so easily.
Tom Lydon, president of Global Trends Investments in Newport Beach, for example, switched to exchange traded funds in 2004 after many of his favorite open-end offerings imposed re-demption fees. The fees make his tactical asset allocation models, which require rapid moves in and out of sectors and markets, impossible to implement, he said.
ETFs, however, are well suited to his strategy.
"If we were using a mutual fund and we happened to have a short-term trade, the fund company would still have the ability to disinvite us, and we wouldn't want to be in that position," Mr. Lydon said.
For other advisers, redemption fees are a shareholder-friendly policy.
"When someone else sells short term, the fee can be in excess of the cost to the fund," said Jonas Ferris, editor of the fund-tracking website maxfunds.com and president of MAXadvisor LLC, a money management firm based in Portland, Ore. "Money goes into the fund assets, which basically boosts return of the fund and frequently helps shareholders."
Mr. Ferris noted that he doesn't invest in funds in illiquid market segments, such as emerging markets or micro-caps, that don't have redemption fees.
