Johnsen on Mutual Fund Fees

In an exclusive interview with Fiduciary News, Professor D. Bruce Johnsen discussed his recent study "Myths About Mutual Fund Fees: Economic Insights on Jones v. Harris." In the interview Johnsen revealed how some have abused economic common sense and raised the possibility that the issue of mutual fund fees raises fiduciary liability only when the 401k fiduciary circumvents market forces by attempting to address the issue.

Johnsen summarized his paper's main point, saying, "Although you wouldn't know this from reading the popular press, economic theory clearly suggests paying high fees is justified a a world where the average shareholder doesn't have the wherewithal to monitor the advisor to assess the quality of services. This is know as the efficiency wage notion. In other words, reducing fees entails an added cost that can be more than the savings."

Johnsen expressed a desire to see the law be more careful in embracing economic principles.

"As a first approximation, my paper makes the point that fees are irrelevant because money can flow in and out of mutual funds to equalize expected returns adjusted for risk," he said. "To assume high fees reduce returns dollar-for-dollar is simply wrong. Lower fees are not necessarily better where you cannot observe quality. You just need to look at basic economic theory to understand there's really nothing systematically malevolent going on here."

Exclusive Interview with Mutual Fund Fee Myth Busting Professor,, October 26, 2009. By Chris Carosa.


FN: Which myth is most prominent as it pertains to 401k plans?

Johnsen: As you can guess from the above, I feel the myth most relevant to 401k plans and their fiduciaries is the one that states mutual fund fees should match pension fund fees. High prices – in this case higher fees – might insure higher quality service, thereby relieving the fiduciary from incurring monitoring cost. In other words, higher fees “bond” the performance of the adviser. So, if you’re a small plan fiduciary, it might make more sense to pay higher “investment advisory” fees than to incur even higher monitoring costs elsewhere.

FN: What is the best thing 401k plan fiduciaries can do right now to address these myths?

Johnsen: Well, the first thing they can do is simply relax. No one can expect you to spend a dollar to save 50 cents – and this is precisely the pragmatic result of being too aggressive chasing lower fees. A fiduciary needs to optimize across various dimensions of costs and benefits. This is just not good economic calculus.  It’s a simple business decision and should be protected by the business judgment rule absent some kind of demonstrable misconduct by the fiduciary such as self-dealing, gross negligence, or bad faith.

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Related coverage:

In a DailyFinance article on mutual fund fees, Professor D. Bruce Johnsen explains the conclusions of his recent study, "Myths About Mutual Fund Fees: Economic Insights on Jones v. Harris."

"Lower advisory fees don't necessarily benefit investors," says Johnsen. "Don't believe the bad press about high advisory fees. It's a misconception that fund fees necessarily reduce invester returns dollar for dollar, and that lower fees therefore benefit investors." Higher prices can indicate higher quality in many cases, says Johnsen.

On November 3 the U.S. Supreme Court heard arguments in Jones v. Harris Associates, in which  the Court reveiwed allegations that classes of investors paid different fees for management of identical portfolios.

Mutual fund fees fight may be much ado about nothing, DailyFinance, November 5, 2009. By Sheryl Nance-Nash.

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