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A Chilling Effect?

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One of the main arguments against the newfound vigilance of the SEC presented by many smaller RIAs is that the rules are more appropriate for those larger investment advisors who can afford the added time and expense of compliance. But what if those regulations have a chilling effect on the very spirit of entrepreneurship espoused by small RIAs, many of whom wind up running their own mutual funds? That’s Ron Muhlenkamp’s concern over the SEC’s new regulations. Other advisors–especially those who started by advising individual clients and grew into larger money managers–express similar concerns.

Muhlenkamp has been in the investment advisory business since 1978, and remains CEO of his fee-only firm, Muhlenkamp & Company, Inc., which is based in Wexford, Pennsylvania. Muhlenkamp says he decided to raise his minimum account size from $200,000 to $300,000 in the late 1980s to more efficiently diversify his clients’ portfolios. In order to accommodate clients and prospective clients who didn’t have $300,000 to invest, however, in 1988 he started a no-load mutual fund, the Muhlenkamp Fund (MUHLX), which as of May 17, 2004, had $1.27 billion in assets and a 15.24% average annualized return over the past 10 years, according to Standard & Poor’s. The fund posted that enviable performance and growth while levying total expenses of 1.17% (compared to its peers’ average expense ratio of 1.40%), all with a minimum investment of $1,500.

Yes, the fund’s been successful, and Muhlenkamp’s firm runs another $200 million outside of the fund for clients, but it hasn’t always been so rosy. “My B-school professor would say I made a bad business decision to bring out a mutual fund. For the first five years, it was not an income generator,” Muhlenkamp says drily. He notes it took him two years to get the fund to $1 million in assets, and his two independent trustees–private clients of Muhlenkamp’s who were successful businessmen in their own rights–served without charging any fees for the first 10 years of the fund’s existence.

That’s why he’s concerned with the SEC’s new rules, particularly on the “independence” of the fund’s board of directors (MUHLX is set up as a trust, so Muhlenkamp’s “directors” are called trustees). “We wanted people (as trustees) who were familiar” with his investment approach. “My point is that these new proposed rules would require either additional trustees–meaning additional costs, of course–or require an independent chairman and 75% independent trustees. I certainly wouldn’t have been able to bring out a mutual fund” under these rules 15 years ago, Muhlenkamp argues, “and I’d have to look at it hard to see if I could bring it out today,” even with a successful practice. “Would I be able to support those five years of losses? I don’t know.”–James J. Green