U.S. urges curb on investment advice fees
Joining in a major test case on the fees that investment advisers charge to mutual funds that they control, the Obama Administration on Wednesday urged the Supreme Court to put some clear limits on those fees. Such charges, U.S. Solicitor General Elena Kagan argued, should not be outside the range of what an adviser could charge based on “arm’s-length bargaining.”
The government brief was filed for the U.S. as an amicus in Jones, et al., v. Harris Associates (08-586) — a case the Justices agreed on March 9 to hear. The case will be decided in the new Term started in October.
The approach endorsed by the government for assessing fees is known as the “Gartenberg standard” after the Second Circuit Court’s 1982 ruling in Gartenberg v. Merrill Lynch Assset Management — a ruling that the Supreme Court declined to review in 1983. That standard, the Solicitor General said, “has provided useful guidance for fund boards” and is now reflected in regulations of the Securities and Exchange Commission.
The brief criticized the approach that the Seventh Circuit Court had used in the Harris Associates case. That court said that a 1970 federal law seeming to limit the fees charged for advising mutual funds controlled by the advisers only applies if the adviser misled fund directors in gaining approval for its fees.
It is not enough, Kagan contended, for the adviser to make a full disclosure to a controlled fund, without playing any “tricks.” That approach, Kagan said, is too narrow. A court hearing a challenge to an adviser’s fee must “engage in a more encompassing inquiry,” the brief said, adding that a ”disclosure-only test” would not provide an independent check on compensation that is needed under the Investment Company Act.
The government brief also said that the Circuit Court was wrong in concluding that the fees charged a controlled fund would not run afoul of the law so long as the fees are roughly the same as other funds of similar size are paying their advisers.
A factor that must be considered, according to Kagan’s argument, is whether the fees an adviser charges the funds it controls are “substantially greater than the fees” it charged to institutional clients with which it is not affiliated.
The brief expressed doubt about whether competition among mutual funds for investors was sufficient to keep advisory fees in check. Congress, in fact, has assumed “that disclosure and the presssures of the marketplace were not fully adequate to protect investors from the potential for abuse inherent in the structure of investment companies,” the brief said.