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BlackRock says DOL rule against broker bias favors index funds

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(Bloomberg) — The world’s largest money manager said the U.S. government’s effort to protect retirement savers from excessive fees and unscrupulous brokers would favor index funds at the expense of other products investors should use.

BlackRock Inc.’s views, outlined in a letter sent to the Department of Labor Tuesday, adds pressure on President Barack Obama’s administration to change a proposal that would tighten rules on brokers who handle retirement accounts. The government’s plan would force brokers to act in the best interest of clients, even when such a recommendation earns them lower fees.

Selecting index funds, which track a basket of securities and tend to carry lower fees, could provide brokers an escape hatch from the complex rules, under a proposal issued by the Labor Department in April. The plan questions whether there should be a broad exemption for sales of “high-quality, low- fee” investments, which BlackRock says would be index funds.

“We feel strongly that would be an inappropriate choice,” said David Blass, general counsel of the Investment Company Institute, the trade group for mutual funds. “There are many funds beyond low-cost index funds that could be appropriate for any individual retirement saver’s portfolio.”

Subpar Advice

Labor Secretary Thomas Perez told a Senate panel Tuesday that his agency is willing to hear industry feedback but insisted that current rules, largely enforced by the Securities and Exchange Commission, don’t safeguard investors from high fees and greedy brokers.

“The problem with our system in the U.S. is it incentivizes complexity when simplicity is all too frequently what’s called for,” he said at a committee hearing where lawmakers grilled him about the plan. “It incentivizes complexity because complexity generates more fees.”

Perez has said that current rules allow brokers to get away with providing subpar advice. The new protections would help investors avoid $40 billion in fees over 10 years, the Labor Departmentestimates.

The Labor Department’s proposal says that target-date retirement funds and balanced funds, which include a mix of stocks and bonds, might qualify as “high-quality, low-fee” investments. Perez has suggested in speeches that some retail investors should probably only buy index funds.

Fee disclosure

Under the plan, brokers could still earn sales commissions and other fees that create conflicts of interest if they sign a “best-interest” contract with investors. The contract would require the disclosure of fees or other incentives that might influence recommendations.

BlackRock and other Wall Street firms say the complexity and cost of complying with the proposal, including the best-interest contract, will drive financial firms away from working with investors who have less money to invest. They’ve said the Labor Department should cede the rule-making effort to the SEC, which is beginning to craft a separate proposal that would raise the bar for brokers handling retirement and personal investments.

Other business groups weighed in this week in opposition to the plan. The U.S. Chamber of Commerce, which has financial services firms including Edward Jones & Co. and Fidelity Investments among its members, said the rule would impose higher costs on small businesses that offer retirementplans. The business lobby group, which is well known for taking agencies to court over regulations, also didn’t rule out suing the Labor Department.

“We won’t be able to make any decision until we see a final rule,” Alice Joe, managing director of the chamber’s Center for Capital Markets Competitiveness told reporters earlier this week. “Obviously if it does come to that, it is the choice of last resort.”