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July 31, 2003

Brits Crackdown on Soft Dollars

By Gregory Bresiger

Is it a harbinger of what the Securities and Exchange Commission may do?

That's what some trading executives may be asking after the United Kingdom's Financial Services Authority (FSA) issued a report calling for tough new measures governing soft dollars and bundling.

Celent, an industry research organization which has seen the report, estimates that if implemented, the proposals could cost the British securities industry about GBP615 million in lost revenue in a typical year. That's almost 30 percent of annual British commissions.

Consumer Protection

The SFA report in the U.K. calls for fund managers to change the way they charge clients for goods and services.

"So we believe," the SFA report said, "that our current rules and guidance do not adequately address the key consumer protection issues raised by the practices of bundling and softing set out in this paper. There is consequently a need to strengthen the regulatory regime, in order to address the inherent conflicts of interest arising from bundling and softing and the lack of transparency in the way goods and services are paid for."

Fund managers will be required to provide greater cost transparency, which will result in large savings for investors, according to FSA officials. The proposed changes could put British managers using soft dollars at a disadvantage, said a Celent analyst.

"The economic misalignment created by bundling and soft commissions are real, but by going it alone, the FSA may inadvertently damage a domestic industry already struggling with a longstanding bear market," said Octavio Marenzi, an analyst with Celent. The research organization predicted that American and other markets are "unlikely" to adopt the stricter FSA model and that capital could end up fleeing Britain because of it.

Nevertheless, an American securities lawyer says that U.S. regulators still might be interested in taking steps against soft-dollars practices.

"The Baker legislation now going through Congress would require a study on soft dollars," said Martin Lybecker, a Washington, D.C. attorney. The bill, sponsored by Rep. Richard Baker (R-La), also calls for greater transparency and disclosure of fund charges. It has been endorsed by several consumer groups, including the AARP. "We believe these changes will introduce more vigorous price competition into the mutual fund marketplace," said a spokesman for the AARP. However, the trading industry has tended to take a low profile on the measure.

Expense Ratios

Lybecker says that the study could potentially lead to more investigations of soft dollar practices. Lybecker complains that some of the biggest fund companies, such as Vanguard, have used soft-dollar practices to ensure that investors benefit from funds that have low expense ratios.

He said that complaints about soft-dollar practices "are much ado about nothing." Lybecker said investigations of soft-dollar practices back in 1996 "only turned up 20 cases and all of them were cases that didn't disclose these practices."