Monday, April 10, 2006

SEC's Mutual Fund Independence Rule Must Go

A couple of years ago, when William Donaldson was still Chairman of the SEC, he pushed through a rule mandating that 75% of a mutual fund's board of directors, including the chair, be independent. At the time, I said this was a bad idea. It seems the courts agree. Just before Mr. Donaldson ended his tenure at the SEC, a federal appeals court said the SEC had rushed the rule through and must review it. But Mr. Donaldson decided to push it through again and quickly before stepping down. Once again, the court has sent it back for further review. Under new SEC Chairman Christopher Cox, we may finally see some common sense return to this matter. Here are my comments on this issue as published in the March 2004 issue of the Forbes Growth Investor.

Scrutiny of the mutual fund industry continues.The SEC has issued a number of proposals. One that caught my attention would require that at least 75% of a fund’s board of directors be independent.This seems like an excessively high figure. For example, it would mean that a board with 10 members could have at most two individuals who are affiliated with the management of the fund. Personally, I would feel more than a little anxious investing my money in a mutual fund with this kind of structure. I’d prefer knowing that there is a critical mass of individuals on the board who really understand the business. Despite its proposal, the SEC must be a little worried that independent directors may not be completely up to snuff. Maybe that’s why the proposal would also require funds to "explicitly authorize the independent directors to hire employees and others to help the independent directors fulfill their fiduciary duties." This sounds like a call for the creation of a whole new industry. Maybe it’s part of a grand jobs creation plan. But who will pay for all these new employees to advise the independent directors? The investors of course. If you ask me, this is all the more reason to avoid funds and buy individual stocks instead.