One proposed remedy for stamping out abusive “late trading” in the mutual fund industry already is drawing fire from critics who say it would unintentionally punish the nation’s 48 million 401(k) retirement plan investors.
The proposal, which the Securities and Exchange Commission may unveil at a meeting Wednesday in Washington, could put tighter controls on how late in the day mutual fund companies can take buy and sell orders and still execute the orders at that day’s closing price.
Critics say mutual fund “intermediaries” such as 401(k) plan administrators, brokerage firms and so-called fund supermarkets such as Charles Schwab Corp. could be forced to stop accepting orders for a particular day as much as six hours before the stock market’s closing bell–in effect creating a blackout period.
“In a sense it puts 401(k) investors at a disadvantage,” said Scott Peterson, head of defined-contribution services at consulting firm Hewitt Associates Inc.
Others said it would make little difference. Julie Allecta, an attorney at the San Francisco firm Paul, Hastings, Janofsky & Walker, which represents fund companies, noted that most 401(k) participants are long-term investors.
“For the vast majority of investors, the `hard close’ should not make a material difference,” she said. “It’s hard for me to believe that it’s a huge disadvantage.”
The controversy centers on the SEC’s efforts to curb one of the major abuses that has surfaced during the mutual fund scandal of the last three months: after-the-bell trading.
Regulators have found several instances in which fund companies allegedly allowed favored investors to trade fund shares after the stock market’s 3 p.m. Central time closing bell and receive that day’s closing price–rather than the next day’s price as required by law.
Some observers believe the SEC will propose a “hard” cutoff that requires any order received by the fund company before 4 p.m. EST to be priced at that day’s closing price. An SEC spokesman declined to comment Tuesday.
Forging a plan amid scandal
The plan is being debated as the scandal continues to intensify. On Tuesday, Invesco Funds Group became the latest firm accused of wrongdoing by New York Atty. Gen. Eliot Spitzer and the SEC, and Strong Capital Management’s founder, Richard Strong, resigned under the threat of possible charges.
A strict cutoff could pose hardships for 401(k) plans and other so-called intermediaries that process and bundle hundreds of trading orders before passing them on to fund companies, critics say. The process can take hours, and even though trades are received on time by the intermediaries and priced legitimately at that day’s closing value, the orders may not arrive at the funds until well after the market’s close–which, under a strict cutoff, would require the trades to be priced at the next day’s closing price.
Last year, 87 percent of mutual fund trading orders went through an intermediary of some kind. Experts say 401(k) investors would be affected the most by a strict cutoff, because trades within the plans typically require extra time for processing, in part because of legal compliance procedures.
Early cutoff is controversial
Jan Jacobson, director of retirement policy for the American Benefits Council, which represents more than 200 large employers and several retirement-plan administrators, said many of the group’s members estimate that 401(k) trade orders would have to be cut off four to six hours before the market’s close. In a letter to the SEC on Tuesday, the council urged the SEC to back away from a strict cutoff.
The council and other foes of the plan are pushing for a looser rule that would let intermediaries keep accepting orders until 4 p.m. EST and still execute them at that day’s closing price, with new electronic safeguards put in place to prevent abuses.
But backers of the strict cutoff call it necessary, considering how badly accusations of after-the-bell trading have tarnished the $7 trillion fund industry’s reputation.
“It has a trade-off, but the upside is slamming the door shut on late trading,” said Paul G. Haaga Jr., chairman of the fund industry’s lobbying group, the Investment Company Institute.
In recent congressional testimony, Haaga said a strict cutoff time was the most reliable way to combat late trading.
If the five commissioners recommend a proposal, it would be issued for a period of public comment and subject to revision before a final vote.
