S.E.C. Turns Its
Eye to Hidden Fees in Mutual Funds
regulators have ramped up their scrutiny of
private equity practices in recent
years, investors have learned a lot about hidden — and dubious — fees
they are paying.
it’s time for investors in the $16 trillion
mutual fund arena to do the same.
Sept. 21, the
Securities and Exchange Commission’s
enforcement division filed
proceedings against First Eagle
Investment Management, an asset-management company overseeing $100
billion — mostly in eight stock, bond and multi-asset funds. The S.E.C.
said that from January 2008 through March 2014, First Eagle improperly
billed its investors $25 million for payments to brokers marketing the
funds’ shares. The commission also accused First Eagle of misleading
investors by maintaining in fund documents during that period that it
was paying the marketing costs itself.
First Eagle settled the matter
without confirming or denying the allegations. It agreed to pay about
$27 million in disgorgement and interest as well as penalties of $12.5
million. The S.E.C. will set up a fund to return money to investors
who were harmed by First Eagle’s actions.
modest First Eagle fund shareholder, I am one of them.
S.E.C. rules, fund companies like First Eagle can charge shareholders
for some costs associated with attracting new money and investors.
Such fees fall under a so-called 12b-1 plan, named for the S.E.C.
rule governing its use.
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plan is subject to approval by a fund company’s board; funds seeking
to pay marketing costs above those set out by the 12b-1 plan must take
them out of their own pockets, not those of their investors.
Eagle broke that rule. In a statement, the fund company said it
regretted the matter and had improved its procedures. “The S.E.C. has
acknowledged First Eagle’s cooperation,” the company added, “noting
that we acted promptly to remedy the issue and that we immediately
offered to return the money paid from the funds’ assets.” (My share
will be nominal.)
First Eagle spokesman declined to comment further.
course, the problem is much bigger than this one case,” said
Barbara Roper, director of
investor protection at the Consumer Federation of America. “The S.E.C.
has allowed 12b-1 fees to morph into distribution fees when they were
originally intended to serve a very different purpose. The agency had
a reform proposal ready to go back in the early days of this
administration, but the industry didn’t like it, so it never went
are signs, however, that the First Eagle case may be just the initial
S.E.C. salvo on improper mutual fund fee practices. Tricks involving
12b-1 fees are a rich vein for the S.E.C. to mine because these
charges are exceedingly opaque. Bringing cases in this area is crucial
for investors since these fees drag down fund returns.
fees also pose real conflicts of interest. Investment advisers are
paid based on a percentage of assets under management; as these assets
grow, so does the adviser’s income. Marketing a fund helps increase
assets under management, so the investment adviser is the primary
beneficiary of any fees paid for that purpose.
“Mutual fund advisers have a fiduciary duty to manage the conflict of
interest associated with fund distribution, namely whether to use
their own assets or to recommend to their fund’s board to use the
fund’s assets to distribute shares,” Julie M. Riewe, co-chief of the
asset management unit in the S.E.C.’s enforcement division, said in a
statement. First Eagle breached that duty, she added.
mutual fund industry says such fees help investors who are seeking
advice about what offerings to buy by paying brokers to make those
S.E.C. adopted the 12b-1 rule back in 1980, when many funds were
experiencing large redemptions. Allowing fund investors to pay some
marketing costs was supposed to help counter the outflows. At the
time, 12b-1 fees amounted to a few million dollars per year.
those days are long gone, and in 2010 — when the S.E.C. proposed a new
rule limiting the amount a fund
could charge its investors in 12b-1 fees — these fees had jumped to
$9.5 billion annually. At the end of last year, the fees stood at
Eagle started down its problematic path on marketing fees in 2008, the
S.E.C. said. That may not be a coincidence. The markets were being
roiled by the mortgage crisis, and First Eagle investors were fleeing.
The fund company recorded $675 million in net outflows that year,
according to Morningstar, the mutual fund researcher.
the roughly six years that the S.E.C. said First Eagle was shifting
marketing costs to investors, the company’s funds netted $23.1 billion
in new investor money, Morningstar data shows. Assuming that investors
paid First Eagle’s typical 0.75 percent management fee, it generated
roughly $173 million on that fresh cash.
impossible to know how much of this cash came in because of the
improper use of investor money, but it’s clear that First Eagle could
have paid the $25 million in marketing costs itself. Fund documents
show that in the 2014 fiscal year alone, the funds’ investment adviser
received $558 million in management fees. For a relatively small
company like First Eagle — it has 166 employees — that’s a big chunk
Eagle’s costs will increase as a result of the S.E.C. deal. It must
hire an independent consultant to review its use of fund assets for
activities aimed at increasing the sale of fund shares.
private equity firms — Blackstone Management Partners and Corsair
Capital — are proposing to buy a majority stake in First Eagle. The
deal, which will keep First Eagle independent, is expected to close
later this year.
Eagle’s website contains a list of its guiding principles. This is one
of them: “Always act with honesty, integrity and transparency. Never
have anything to hide.”
A version of this article appears in print on September 27, 2015, on
page BU1 of the New York edition with the headline: Dubious Marketing
Fees Catch the Eye of the S.E.C.
© 2015 The
New York Times Company