5 Min Read
By Sarah N. Lynch
WASHINGTON, March 8 (Reuters) - The top U.S. securities regulator plans to examine how the advisory industry pays mutual fund distributors, as well as broader trends and risks involving alternative funds.
U.S. Securities and Exchange Commission examiners will kick off the first of two "sweeps" next week, the SEC's Office of Compliance Inspections and Examinations Deputy Director, Andrew Bowden, said on Friday at an Investment Adviser Association conference in Arlington, Virginia.
The first sweep will examine the different payments made to mutual fund distributors, including revenue-sharing, fees paid to industry conference sponsors and so-called "12b-1" fees, which are deducted from mutual funds to pay for fund promotion and other shareholder services.
"If you talk to anyone in the business, they'll say a lot has changed in distribution during the last 10 years," Bowden said.
He added that a sweep by the SEC will help the agency gain a better understanding of these payments and what the money is used for. The SEC will also be looking more carefully at the oversight of these payments by mutual fund boards.
He declined to say how many firms would be examined.
The SEC has been interested in exploring reforms to rules governing 12b-1 fees for some time now.
The fees came about in the late 1970s when funds were losing assets faster than they were able to attract new ones. But over the years, the fees have evolved to pay not just for advertising, but also to pay intermediaries that sell shares.
In July 2010, the agency proposed rules that would restructure the way mutual funds pay for the marketing and sale of their shares amid concerns that some investors were paying proportionately more than others. The rules would have also eliminated hidden sales charges.
However, the SEC has still not finalized the rules.
In a 2011 speech, SEC Commissioner Elisse Walter, who is now serving as chairman, said she did not expect the agency to finalize the rules until it was finished with regulations required by the 2010 Dodd-Frank Wall Street Reform law.
However, Bowden told reporters on Friday that the results of the examinations could "possibly" be used to revise the proposal.
In addition to the sweep on fees paid to mutual fund distributors, Bowden said the SEC is planning a sweep on the $200 billion alternative fund industry, and how it is using certain private fund strategies in publicly-traded investments.
In an announcement last month on examination priorities in 2013, the SEC said it was looking more closely at alternative and hedge fund investment strategies in open-end funds, exchange-traded funds and variable annuity structures.
The agency planned to focus on whether leverage, liquidity and valuation policies complied with regulations and also whether boards, compliance personnel and back offices were properly staffed and funded.
In addition, examiners will also explore whether funds are being marketed to investors in compliance with SEC regulations.
"We've seen some really interesting structures for those funds," Bowden said.
Some of those structures include setting up offshore entities to get more exposure to various derivatives, swaps and other types of commodities.
While some of those strategies have worked successfully for private funds, regulators need more information to determine whether they are sensible and work in the context of mutual funds, he added.
In addition to the two sweeps, the SEC also previously outlined a few other exam priorities for 2013 for the advisory business.
One pertains to a focus on private funds, over 4000 of which were required to register with the SEC for the first time under the 2010 Dodd-Frank Wall Street reform law.
Another area of focus will be on firms that are dually registered as broker-dealers and investment advisers.
"Staff will review how financial professionals and firms satisfy their suitability obligations when determining whether to recommend brokerage or advisory accounts, the financial incentives for making such recommendations, and whether all conflicts of interest are fully and accurately disclosed," the SEC said late last month.