Advisers: SEC, not courts, should set standards for mutual fund fees

Several financial advisers said that they agree with the Supreme Court justices who appeared to suggest during oral arguments last week that the Securities and Exchange Commission, and not the courts, should ultimately decide when mutual fund fees are excessive.

Several financial advisers said that they agree with the Supreme Court justices who appeared to suggest during oral arguments last week that the Securities and Exchange Commission, and not the courts, should ultimately decide when mutual fund fees are excessive.

The case heard last Monday, Jones v. Harris, involves a lawsuit filed by a group of investors against Harris Associates LP, which advises the Oakmark Funds. The plaintiffs alleged that Harris breached its fiduciary duty by charging excessive management fees.

“It makes a lot more sense to have the SEC regulate rates than to have courts do it, doesn’t it?” Chief Justice John Roberts said during court arguments. A ruling isn’t expected until next year.

Mr. Roberts’ thinking jibes with that of some advisers.

“That’s what the SEC is there for,” said Richard Schroeder, executive vice president of Schroeder Braxton & Vogt Inc., a financial advisory firm with $170 million in assets under management. Getting the courts involved in setting fees seems like an unnecessary extra step, he said.

Others noted that the SEC is already regulating mutual funds, so additional oversight over fees appears like a natural extension of the commission’s duties.

“It seems logical that the government agency watching over the industry has authority over fees,” said Mark Balasa, a financial adviser and co-president of Balasa Dinverno & Foltz LLC, which manages $1.5 billion in assets.

The SEC, however, has rarely used its authority to weigh in on fees, said Mercer Bullard, president and founder of Fund Democracy Inc., a mutual fund shareholder advocacy group.

“The SEC should bring cases or provide guidance that establishes the standard that would apply,” he said. “That would be something that would be beneficial, but the SEC has long abdicated any responsibility for setting standards.”

Advisers concur with Mr. Bullard.

“If that’s what they [SEC staff members] are supposed to be doing, they aren’t doing enough of it,” said Stephen Gorman, president of Gorman Financial Management, which has $100 million in assets under management.

SEC spokesman John Heine declined to comment.

Despite a line of questioning that seemed to suggest that the Supreme Court justices are leery of getting into the business of setting standards, however, it is hard to tell what the court will ultimately determine.

The 7th U.S. Circuit Court of Appeals in Illinois ruled against the plaintiffs last fall. Chief Judge Frank Easterbrook upheld the fees set by Harris and noted that as long as there is transparency and no fraud, a fund provider hasn’t breached its fiduciary responsibility to investors.

That ruling essentially created law.

Since a 1982 ruling by the 2nd U.S. Circuit Court of Appeals in New York, courts have applied the Gartenberg standard — named for a plaintiff in that case — to claims of excessive fees.

That standard holds that for a fee to be excessive, the mutual fund manager “must charge a fee that is so disproportionately large that it bears no reasonable relationship to the services rendered and could not have been the product of arm’s-length bargaining.”

E-mail David Hoffman at [email protected].