February 23, 2004

Mutual and Hedge Fund Managements: A New Chinese Wall?

WASHINGTON (HedgeWorld.com)--The question is not whether the Senate will take up a bill to reform the mutual fund industry this year, but whose bill.

One version likely to get a lot of attention in coming weeks is proposed by Sen. Jon S. Corzine (D--N.J.), formerly the chief executive of Goldman Sachs Group Inc. This bill is co-sponsored by both of Connecticut's Democratic senators, Joseph Lieberman and Christopher Dodd.

On the floor of the Senate, Nov. 25, when Senator Corzine introduced the bill, he said that he had been dismayed to see such names as "Putnam and Canary Capital ... become synonymous with Enron, Tyco and WorldCom in terms of the financial harm inflicted upon investors, undermining their confidence and trust in America's financial markets."

His bill, Mutual Fund Investor Confidence Restoration Act of 2003, covers much the same ground as the Mutual Fund Transparency and Integrity Act of 2003, which passed the House of Representatives Nov. 19 with 418 votes.

Like the House Act, HR 2420, which also has been referred to the Senate Banking committee in the form in which the House passed it Previous HedgeWorld Story, the Corzine-Dodd bill, S. 1971, would require the Securities and Exchange Commission to issue rules eliminating the stale-pricing problem that traders have exploited; would increase transparency requirements as to mutual fund fees and costs, inclusive of soft-dollar arrangements; and would strengthen the independent directors of fund management firms.

More controversial, even in today's pro-reform climate, is a provision that both HR 2420 and S. 1971 possess that would prohibit mutual fund managers from jointly managing a hedge fund.

There are two other bills addressing the issue of mutual fund reform now before the Senate. One of them is the Mutual Fund Investor Protection Act, S. 1958, sponsored by Sen. John Kerry (D--Mass.) and co-sponsored by Sen. Edward Kennedy (D--Mass.). This is the only one that does not include a clause creating any such Chinese wall.

The Senate Banking Committee, on which both Sens. Dodd and Corzine sit, will take up the issues involved in these bills in hearings later this month. On Feb. 25, it will hear from five witnesses, including Don Phillips, managing director, Morningstar Inc., and James Riepe, vice chairman of the board of directors, T. Rowe Price Group Inc. The following day, it will listen to another four witnesses, including Vanguard Group founder Jack Bogle and Mellody Hobson, the president of Ariel Capital Management Inc. No hedge fund manager witnesses have yet been named.

A spokesman for Sen. Dodd's office said this week she could give no estimation of how quickly any of the existing proposals might move through the committee or onto the floor of the Senate. "It's the [Republican] majority that controls the schedule," she said.

The most recently introduced bill on this subject is from a member of that majority--the Mutual Fund Reform Act, S. 2059, sponsored by Sen. Peter Fitzgerald (R--Ill.) and introduced Feb. 10. It's co-sponsored by Sen. Susan Collins (R--Maine) and Sen. Carl Levin (D--Mich.). This contains a Chinese wall provision. Like each of the other bills with such a provision, it allows for exceptions. The language of the bills is similar on this point, each allowing the SEC to permit joint management by a portfolio manager "when necessary to protect the interest of shareholders."

CFaille@HedgeWorld.com

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