Mutual Fund Advisory Fees: New Evidence and a Fair Fiduciary Duty Test
John P. Freeman
University of South Carolina
Stewart L. Brown
Florida State University - Department of Finance
August 20, 2008
Oklahoma Law Review, Vol. 61, p. 83, 2008
A recent article in the Economist called attention to the mutual fund industry's flagrantly noncompetitive fee structure, noting that fund managers earn a "staggering" profit margin of 42% on average, largely because "most fund managers do not compete on price." Despite this reality, in a recent law review article based on research financed in part by the Investment Company Institute (a lobbying organization for fund sponsors), Professors John Coates and Glenn Hubbard purport to show that mutual fund managers compete vigorously on price and that fund shareholders are not suffering from price gouging over fund fees. The authors of the present article, "Mutual Fund Advisory Fees: New Evidence and a Fair Fiduciary Duty Test," beg to differ. Fund portfolio managers tend to charge their own shareholders double what they charge for essentially identical advisory services rendered to institutional investors in the free market. This reality raises severe fiduciary duty problems that the courts and the Securities Exchange Commission have so far proven unable or unwilling to solve. This new article proposes a better way of analyzing fund managers' fee contracts, relying on free market prices as a test for fairness, rather than comparisons based on conflicted, inflated fund market pricing. A Forbes writer noted some time ago that fund managers' "worst nightmare" would result if they were required to charge their funds' shareholders (to whom fiduciary duties are indisputably owed) prices based on the much lower portfolio management fees the fund managers charge when selling basically the same portfolio advisory services to third-party institutional clients in arm's-length transactions. The authors contend that a nightmarish outcome is exactly what price-gouging fund managers deserve.
Number of Pages in PDF File: 72
Keywords: advisory fees, Coates, Hubbard, Investment Company Institute, mutual funds, price competition, SEC
JEL Classification: G23, G24,G28, G30, G38, K22, K42, L51, M21Accepted Paper Series
Date posted: August 22, 2008 ; Last revised: August 28, 2008
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