Malfeasance Insurance

How plan sponsors are coping with the mutual fund scandal.

The mutual-fund industry contends that the fast-spreading allegations of improper trading at fund companies should not worry the approximately 400,000 corporate sponsors of 401(k) plans. But worry they do.

That, at least, is the conclusion of a new survey by CFO magazine, in which a full 86 percent of respondents express concern about mutual-fund mismanagement. More than half, in fact, say they are quite or extremely concerned, especially about conflicts of interest among fund traders and high management fees.

Overall, the worrying doesn’t seem to have translated into drastic action, at least not yet. Rather, as the investigations of fund abuses proceed, many sponsors are waiting to see how funds in their 401(k) portfolios may be affected before they do anything. The CFO survey indicates, for example, that less than one-third of finance executives would support dropping an affected fund immediately from the 401(k) portfolio, while 57 percent would institute a review first.

“Companies are asking how high up the problems went, how serious they were, and what actions have been taken to remedy the situations,” says Patrick Reinkemeyer, president of Morningstar Inc.’s consulting group. Before they make a decision to drop a mutual fund, plan sponsors want to know “to what degree the fund’s ability to manage money has been compromised.” From the sponsor’s perspective, deciding on a particular fund’s future in the plan “is not easy,” says Reinkemeyer. “The standards can’t be the same for Calpers [the California Public Employees' Retirement System] as they are for a neighborhood car wash.”

Even as the number of accused mutual-fund companies proliferates, most finance executives still believe that funds in general can deliver adequate retirement options to employees. Less than a third of our respondents say they are less confident about that ability now than they were two years ago, while 59 percent say there has been no change and 10 percent say they are actually more confident.

Many of the CFOs who are concerned about individual funds in their portfolios hesitate to take precipitous action until the full dimension of the problem is understood. “This is a very tricky period,” says David Wray, president of the Chicago-based Profit Sharing/401(k) Council of America. “A lot of people are being very cautious until they’re convinced that all the fallout has fallen.”

The Alternatives

So what’s a sponsor to do? Instead of simply eliminating a tainted fund from a portfolio, some are choosing to add alternative funds in the same category. The idea is to give participants a choice, rather than to direct them from one fund into another. Paradoxically, some of the funds identified in the first wave of the scandal are engaged in aggressive cleanups—and fee reviews—that may make them among the safest and best-priced options.

“Where in the world would you move if you wanted to be sure you were safe?” asks Textron Inc. CFO Ted French. “You could find yourself jumping out of the frying pan into the fire.” That would certainly be the case, he says, if the Textron investment committee he chairs were to ax one of its funds and then learn that the replacement fund was also a target of investigators.


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