SEC Expected to Propose Hard Fund Close

December 2, 2003 ( - Faced with a continuing investigation into abusive market trading practices, regulators are said to be ready to propose a reform package that includes a "hard" 4 p.m. deadline for fund to receive buy or sell orders for that day's price.

The 4 p.m. deadline is designed to close any window of opportunity for late trading abuses in the  $7 trillion mutual fund industry, Dow Jones reported. To curb timing, the US Securities and Exchange Commission (SEC) is expected to also recommend a mandatory minimum 2% penalty on early redemptions. Funds now may impose a maximum penalty of 2% of assets or actual costs

Fund shares are priced at the 4 p.m. close, but intermediaries process and send orders into the evening, creating opportunities for illegal late trading, that is trades submitted after the market has closed. Under the SEC’s proposal, intermediaries say they’ll have to get orders very early in the day for investors to receive that day’s price, while mutual funds can accept trades until 4 p.m. and continue processing them after that.

Most mutual funds support the hard 4 p.m. close idea, while banks, brokers and retirement plan administrators oppose it, saying it will confuse investors and hurt those who don’t access funds directly.   Opponents say that will punish investors who use intermediaries, especially those who live on the West coast or hold mutual funds in retirement savings plans such as 401(k) plans, which take more time to process (see  K Plan Participant, Recordkeeping Groups Fret Over ICI Proposals ).

Even though retirement plans are long-term investments, participants are sensitive to short-term price swings, wrote SPARK Institute Inc. Chief Executive Robert Wuelfing, whose members administer 401(k) plans. Given today’s volatile markets, he told the SEC that even a day’s delay could reduce retirement savings.

Investors could suffer one-day losses of 1% to 5% if the market moves against them, according to the Society of Asset Allocators and Fund Timers Inc., or SAAFTI, which represents registered investment advisers who invest in mutual funds on behalf of clients.

Some opponents of the SEC’s plan prefer the approach taken by the US House of Representatives, which approved a bill last month that would allow mutual funds to accept orders after 4 p.m., provided intermediaries use time-stamp technology and undergo rigorous audits to detect late trading (See  Mutual Fund Reform Sails Through House ). The Senate hasn’t acted on the measure.

Bankers agree. In a letter Monday to SEC Chairman William Donaldson, the American Bankers Association endorsed the House’s stance. With a hard close, the ABA said investors who invest directly in funds will get same-day pricing, while others will get the next day’s price, at best. The ABA added that 401(k) investors could wind up with fewer mutual funds if they or their employers sacrifice choice for speedier trade processing (see  ABA Cautions About 401(k) Impact of Fund Reforms ).

Brokers have expressed similar concern. At a recent Senate hearing, Securities Industry Association president Marc Lackritz said 60% of investors access mutual funds through intermediaries, including brokers, and would be hurt by a firm 4 p.m. deadline.

The SEC is also expected to urge mutual funds to make wider use of “fair value” pricing, a valuation method it has promoted for years to combat market timing that exploits stale price data, sources close to the SEC told Reuters.  Additionally, the SEC was expected to require funds to spell out more clearly their policies on market timing.