Carol Geremia, president of the MFS Retirement Services Co. unit of Boston-based fund giant MFS Investment Management, contends that plan sponsors “do understand the operating expense of a fund,” which they see in the reported expense ratio. “Now they need to understand how that correlates to recordkeeping and other expenses” — costs that are not included in the ratio, but reflect the plan sponsor’s specific 401(k) management needs. “That’s where the transparency, in my opinion, has gotten muddy,” says Geremia.
In February, MFS settled improper-trading cases filed against it by the SEC and New York and New Hampshire regulators, agreeing to reduce management fees by about $25 million a year over five years on the funds it advises. And more recently, it agreed to pay a $50 million fine — which fund shareholders will receive — to settle SEC charges that MFS secretly made payments to brokers who promoted MFS products. Still, MFS also has been among the more-aggressive funds in changing fee-related practices, including by beefing up its fund-expense reporting, and offering expense-ratio numbers on a single report so that plan sponsors don’t have to “go prospectus by prospectus, which is a pain in the neck,” as Geremia puts it.
MFS recently eliminated the use of “soft-dollar” commission payments to third-party brokers, a technique that lumps fund research and other expenses in with trading costs — and, say critics, often leads brokers to inflate commissions on trades and kick back credits to fund managers in return. By breaking out the research expense separately, MFS “will ultimately end up paying hard-dollar research amounts between $10 million and $15 million per year,” says Geremia.
Overall, she believes the movement toward disclosure will help rather than hurt. “If the plan sponsors have a better idea what the fees are,” she says, “it’s going to be much better for our business.” As for breaking out transaction costs, Geremia says, “the more transparency of additional expenses that are borne in managing a portfolio, the better.”
The existence of soft-dollar payments — which are charged against assets and are thus not part of the formal fee structure — only hints at how daunting it can be to deconstruct all the components of the total mutual-fund costs for which participants pay. Senator Fitzgerald’s subcommittee describes such often-consolidated elements as broker confirmations; advertising costs; costs from portfolio turnover; and various revenue-sharing arrangements with brokers, financial planners, or other advisers. Other fund-administration staples include postage and printing, audit and legal services, and costs listed in reports as “other.”
Many funds also incur costs when they shift assets on a temporary basis under the SEC’s Rule 12b-1, a measure designed to allow investors to capture savings from economies of scale within their funds. Critics say that this asset movement is often overused and misguided, however, and rarely produces net savings. Rather, 12b-1 costs can become something of a disguised load.
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Geremia is among the fund-company executives who lately have seen plan sponsors become more aggressive in demanding information about fees. “And ironically, it began happening before any of the scandals hit,” she says.