FIXING MUTUAL FUNDS

With 95 million Americans putting money into mutual funds, changes in corporate governance approved by the Securities and Exchange Commission last week should help diminish investor fears over the management of these funds. With so much money – much of it from working-class investors who don’t have time to follow the ups and downs of the stock market – managed by mutual funds, investor confidence may be as important as real reform.

A divided SEC on Wednesday adopted a rule that will require that board chairmen at the nation’s fund companies be independent outsiders, not corporate officers. Currently, it is estimated that 80 percent of the chairmen of mutual fund companies are also senior company executives. This puts board chairmen in the uncomfortable position of answering to diverse constituencies that may have different goals. Board chairmen are responsible to those who invest in the funds. But, if he is also a corporate officer, he must also meet the demands of the company, which may be different from those of mutual fund investors.

Because they offer diversity and safety, mutual funds have attracted small, unsophisticated investors. Mutual funds hold $7 trillion in investments, many of them through a workplace 401(k) or other retirement plans or the increasingly popular 529 college saving plans. These investors cannot afford to lose confidence in the people managing their money.

State treasurers, including Maine’s Dale McCormick, submitted a list of suggested reforms to the SEC in January. The agency needed to act, the treasurers said, because the industry was resistant to reform itself. Treasurer McCormick wrote to the five fund management companies that participate in Maine’s college savings plan, known as NextGen. Three companies responded; only one supported having an independent board chairman.

Late last year, SEC chairman William Donaldson said his agency would seek more independence in mutual fund managers. Some, including members of Congress, suspected that Mr. Donaldson was all talk and no action. Congress pursued changes in board rules on its own.

Now, Congress has been overtaken by Mr. Donaldson, who, despite dissent from two fellow commissioners, decided to move ahead with the board-independence requirements. The new rules also require that 75 percent of a fund’s directors be independent, an increase from 50 percent.

Noting there was an “inherent conflict of interest” when a board chairman is also a senior executive, Mr. Donaldson said the new rule “solidifies the fund board as the primary advocate for fund shareholders.”

The rule change is a good step forward. Now the commission can turn its attention to other needed reforms, such as requiring clear disclosure of the fees charged to mutual fund shareholders.