September 17, 2010
My understanding of the proposed rule revision to the 12b1 Mutual Fund Distribution fees is to limit them to a maximum 0.25% (25bps) effectively eliminating the current "C" share class where the Advisor receives a trailing 100bps trailing commission to service the account. I understand there may be a cap imposed on the amount of trailing compensation to the Advisor from these 12b1 distribution fees to a maximum equivalent to the maximum "front load" A Share commission i.e. a 5% 'front load" commission on a fund would only allow the corresponding "C" share class of that fund to pay a maximum of 5 years of trailing 100bps commissions or 5% total. After that period the "C" share would convert to an "A" share at net asset value (NAV) and the Advisor's trailing compensation would revert to the maximum 25 bps allowed by the 12b1 fee cap.
This is a poorly designed proposal if it's intent is to benefit small investors (i.e. $50,000 of investable assets in a fund). The 1% trailing commission of a "C" share allows Advisors like myself to service these "smaller" accounts in a mutually beneficial way for the investor and advisor. If more disclosure to the client of the 12b1 fee is the issue, I have no quarrel with finding more ways to notify the client of what their costs of investing in their mutual fund truly are.
However, trimming that trailing compensation to the advisor by 75% (1% to 0.25%) is going to backfire on the SEC, if their intent is to allow small investors to have the same access to a professional Financial Advisor's advice as a larger account (i.e. $200,000). These larger accounts can pay management fees in wrap accounts to have access to the entire world of Investment alternatives and strategies. The 100bps "C" Share allows the Advisor to scale his practice down to the $10,000 or $20,0000 sized client and still effectively service them.
Eliminating "C" shares forces the Advisor to abandon these smaller accounts as not cost effective to service, unless they increase their asset size by four times or transition into a much higher fee-based wrap account with base annual fees of $500.00 per year or 2.5% on a small $20,000 sized account. This cost would be prohibative to the small investor, so the result would be abandonment by the Advisor. The small investor would now be on their own because of the implementation of this new rule.
All the media coverage about the Administration's intent to help "the little guy" with Consumer Protection Agencies and helping the middle class regain some of the lost ground they've experienced in the last decade would receive a setback by this new propsed SEC rule on distribution fees. It runs counter to everything the Obama Administration "stands for". It only helps those "Rich Folks" that President Obama thinks should be paying more of their "fair share". It leaves the "little guy" out in the cold abandoned by Wall Street, because their is no economic incentive to help these small investors.
My proposed solution is to keep the current "C" share mutual fund class system (or at the very least GRANDFATHER, in perpetuity---not just 5 years, all $$ currently in those "C" share funds). The "C" share system has worked very well for almost 2 decades through "BULL and BEAR" markets, providing good service and disclosure to small investors and keeping the Advisor's interests aligned with the client's interest (i.e. discouraging "churning to generate more commissions).
Forcing this change on a system "that ain't broke" is going to result in far more problems for the SEC and the Financial Advisory industry, than any benefit from greater transparency or disclosure, and hurt the very "small investor" community that the SEC is supposed to be advocating for.