under leadership of the chairman, can aspire. I believe the chairman already knows how important to investors I think these hearings are, and I want to go on the record and express my appreciation to him. The committee has before it two bills-S. 34 and S. 296. The first of these, S. 34, is identical to the bill we passed in the Senate last year, S. 3724 of the 90th Congress. I supported that bill vigorously. I felt at the time it was the best possible piece of legislation which could be passed considering the powerful and well-financed opposition thrown up by the lobbyists of the mutual fund industry. Nevertheless, I stated on the floor last July 24, that this bill "while a definite improvement in the protection offered investors, is in many respects a bare and watered-down version of an ideal regulatory instrument for mutual funds." Accordingly, this year, I introduced S. 296, which makes three basic changes from last year's bill. The committee staff prepared an analysis of the differences between these two bills, and I ask that it be placed in the record at this time The CHAIRMAN. Without objection that will be done. (The analysis follows:) ANALYSIS OF S. 296 (Investment Company Amendments Act, by Senator McIntyre) [This bill is identical in its provisions to S. 34, the Investment Company Amendments Act as introduced by Senator Sparkman, an explanation of which is contained in the committee print, except for the following] Provisions of S. 296 Provisions of S. 34 Provides for a registered securities association to set Provides that in the sale of periodic payment plans (con- The SEC may now seek court injunctions only against persons "guilty" of "gross misconduct or abuse of trust." Senator MCINTYRE. I would like to state as simply as possible what these changes are. First, I would like to see the level of commissions completely removed from regulations by either the Federal Government or industry body. At present commission levels are regulated by the Federal Government under section 22(d) of the act, which makes it a Federal crime for salesmen to offer shares with commissions different from those established by the fund's underwriter. S. 34 keeps this Federal regulation and adds to it a layer of regulations as to commission levels by the National Association of Security Dealers, NASD. My bill removes all of these regulations and would permit commission levels to be established by the free interplay of competitive forces in the open market. Second, I would like to see the Congress carry out the recommendation of the Securities and Exchange Commission that the front-end load be abolished. The law of contract long recognized that unjust enrichment forms an appropriate ground for denying to one contracting party certain financial advantages conferred upon him by another. I believe that the retention of a front-end load by contractual plans sponsors which is unearned because the plan holder drops out or redeems his share before conclusion of the plan represents unjust enrichment, and the best way to remedy this is follow the SEC recommendations and abolish front-end loads. Finally, I don't believe the SEC should be limited in any way in its right to go to court to enjoin breaches of fiduciary duty on the part of the fund managers. If a fund manager acts in an untrustworthy manner as measured by traditional standards of what our laws expect of one who acts in a position of trust, the SEC, as public watchdog over this industry, should be able to prevent further breaches. Thank you. The CHAIRMAN. Thank you, Senator McIntyre. The Chairman of the Securities Exchange Commission had planned to be here this morning. Unfortunately Judge Budge's mother is quite ill and he felt it was necessary for him to return to Idaho. We all extend our hopes that the Judge's mother may have a quick recovery. In any event we extend our sympathy to him in her illness. Judge Budge has been very much interested in and concerned with this legislation. In his stead, Commissioner Hugh F. Owens of the Securities and Exchange Commission is with us this morning. Mr. Owens, we are very glad to have you here this morning. We are glad to hear from you. We have your statement. It will be printed in full in the record (see p. 27). You may treat it as you see fit. For the benefit of the record will you give the name and position of the gentleman who accompanies you. STATEMENT OF HUGH F. OWENS, COMMISSIONER, SECURITIES AND EXCHANGE COMMISSION, ACCOMPANIED BY PHILIP A. LOOMIS, JR., GENERAL COUNSEL Mr. OWENS. Thank you, Mr. Chairman. I am accompanied this morning by our very able General Counsel of the Commission, Mr. Philip A. Loomis, Jr., who will assist me in the presentation before you all this morning. May I say, Mr. Chairman, that Chairman Budge has asked me to extend to you and to the members of the committee his deep regret at not being able to be here with you this morning and he has asked me to substitute in his stead and it is with your indulgence my great pleasure and honor to be here before you. The CHAIRMAN. Did you give Mr. Loomis' name and initials for the record? Mr. OWENS. I did. The CHAIRMAN. We are glad to have you. Mr. OWENS. Again I appreciate your invitation to appear here today to testify on the pending mutual fund legislation. In preparing for this appearance, I was struck by the great volume of reports, testimony and statements which have already gone into the efforts to amend the Investment Company Act of 1940. The record of testimony before this committee alone during the last session, takes up two good-sized volumes. The House hearings take an adidtional two volumes. This effort began almost a decade ago, in 1958, with the engagement of the Wharton School by the Commission to produce a study of the mutual fund industry. Their report was issued in 1962. Subsequently, the "Special Study of Securities Markets" delved into mutual fund sales practices, especially in the sale of contractual plans, and in 1963 that Study was forwarded to the Congress. Among other things, that Study found the operation of contractual plans inimical to the interests of small investors and it recommended abolition of "front-end-load" arrangements in the sale of fund shares, that is deduction of up to one half of the first year's payments for sales charges. The Special Study led to significant amendments to the Securities Exchange Act of 1934, but the legislation passed did not deal with the mutual fund industry; that was left for further study and examination by the Commission. Finally, in 1966, the Commission produced a comprehensive report"Public Policy Implications of Investment Company Growth"which made legislative recommendations designed to cope with the serious problems which had developed in the fund industry since 1940 and to deal with a large number of "technical" points which had arisen over the years. The Commission's recommendations included: the abolition of the front-end load; the reduction of fund sales charges to a maximum of 5 percent instead of the current prevailing 9.3 percent, and the establishment of a court enforced standard of reasonableness for fund management fees. Now, I realize that the members of this Committee are fully aware of the history of these efforts to achieve meaningful mutual fund legislation which finally led to passage by the Senate of S. 3724 in July 1968. I think, however, that as we renew our efforts in this session, it is worth recalling the decade of study, testimony, and consideration, by the Wharton School, by the Commission and by the Congress of the situation which has prompted these proposed amendments. As Chairman Sparkman pointed out during the floor debate last year, this has certainly been one of the most carefully studied pieces of legislation to come before Congress in recent years. This committee, in the summer of 1967, held extensive hearingsand as I have noted produced a two-volume record of testimony and statements from the Commission, the industry, the exchanges, the NASD, experts and observers. There was ample opportunity for consideration of all sides. This committee reported favorably on the bill in July of 1968, with certain fairly significant modifications S. 3724, the bill reported to the Senate, did not abolish the front-end load. Instead the Senate arrived at a formula whereby the load would not exceed 20 percent in any one year nor average more than 16 percent over the first 4 years. Instead of limiting the sales charge to a flat 5 percent, as the Commission originally proposed, S. 3724 provided for control of unreasonble sales charges by the NASD with Commission oversight. The bill adopted the Commission's recommendation that the effective standard of "waste" in regard to fund management fees be replaced by a standard of reasonableness, enforceable in the courts. Several "safeguards" were added to this section at the suggestion of the industry, including a mandatory request to the Securities and Exchange Commission to bring an action by derivative suitors and a 6-month wait for SEC action before such an action may be instituted privately. Directors' determinations of reasonableness were to be given weight by the courts, as was shareholder approval. The bill also clarified the status of bank administered collective investment funds under the Federal securities laws and the banking statutes. The bill-S. 3724-contained over 40 other amendments, some "technical," others of substantive significance. Thus, the "gross abuse of trust" language of present section 36 was replaced by "breach of fiduciary duty involving personal misconduct." That bill went to the floor and the full Senate, after extensive debate, passed the bill with certain additional amendments designed to meet some of the objections of the industry. The amended bill as it finally passed the Senate provided for the following additional important changes: 1. Compensation shall be presumed reasonable if it has been approved or ratified by the affirmative vote of the owners of a majority of the outstanding voting securities and by a majority of the directors of the investment company, who are not interested persons. This presumption, may however, be rebutted by a preponderance of evidence. 2. If the court determines that the board of directors of the investment company acted with due care in approving the compensation, then there may be no monetary recovery for any period prior to the institution of the action, or, in the case of an investment advisory contract, prior to the termination date of such contract. 3. No action may be maintained by a security holder under these provisions unless the Commission refuses or fails to bring such action within six months after written request by the security holder. S. 3724, as amended and passed by the Senate, was not acted on by the House Committee on Interstate and Foreign Commerce. Of course, as I have noted, there were extensive hearings and testimony on the House side as well. The bill as it passed the Senate is now S. 34, introduced on January 15 by Chairman Sparkman in this session. |