To increase sales, some firms rewarding sellers, not buyers

Dollars & Sense

October 07, 2001

SAY YOU RAN a business and your big product wasn't selling. You come up with two strategies, each costing the same amount, to make the money roll in.

Would you:

a) Cut prices for buyers.

b) Increase the commission you pay your salespeople, so they push the product harder.

If you would put your product on sale, you obviously are not in mutual fund management. That's because during the most trying market time in recent memory, some load-fund firms - and one particular brokerage firm - are priming the sales pump by giving sellers an incentive while doing nothing for buyers.

At least 20 load-fund firms have agreed to a deal this fall in which they pay more to brokers at A.G. Edwards Inc. when those brokers sell a fund to an investor who signs up to make monthly deposits. Separately, the John Hancock funds just completed a program that increased the cut of the sales charge going to the adviser who sold their funds.

Such deals are fairly common, though "teaser commissions" typically are used to entice brokers to push a new fund. The A.G. Edwards situation is the first instance observers recall of a brokerage asking entire fund families to make concessions.

The investor's cost is the same. (These deals generally are disclosed in a sticker to a fund's prospectus, which most investors never read.) But these deals highlight the fact that many brokerage and fund firms don't seem inclined to put the customer's best interest first.

The A.G. Edwards program, technically, is a "dealer re-allowance," meaning the fund company gives some of its cut of the sales charges back to the selling broker and firm.

Normally, if a fund carries a 4.75 percent load, four points go to the broker/firm and the rest to the fund family.

Most load fund firms selling through A.G. Edwards now are reducing their take for most share classes by 0.5 points, giving the financial adviser that much more commission. (In the John Hancock program, the company surrendered its entire chunk of the upfront commission.) That means the person selling the fund makes an extra $50 for every $10,000 invested.

You can't blame firms like AIM, Franklin, MFS and the rest for participating; failure to agree to the A.G. Edwards program would mean paying the sales force less than the competition, likely resulting in bottom-shelf sales treatment.

If you buy load funds and pay for financial advice, you can't begrudge the adviser a fair wage for good effort.

And it's not like the fundamental advice they're giving is bad; investors should be socking money away regularly. The program offers plenty of funds to choose from, so no one firm gets favored over others.

It's the extra commission that fries me.

Funds are a tough sell right now. Sales of stock and bond funds are off by roughly one-third this year, according to the Investment Company Institute. Money market and short-term bond funds - the "in" fund types in 2001 - generate smaller revenues for the fund companies.

An A.G. Edwards official told Bloomberg News: "It's a good way to get our clients to invest in things they normally would be investing in, but are hesitant because of market conditions." The brokerage did not return my calls before press time.

Let's examine that logic: The adviser gets the benefit here by pushing products on a resistant customer who would "normally" buy them? I don't think so. "Normal" behavior for many investors in these conditions has been to pull back. It may be lousy strategy, but it's the nature of the investor. Juicing up the commission to overcome that is a bit like paying the projectionist more to persuade nervous moviegoers to see a horror flick: It's a misplaced incentive.

If brokerage houses and fund firms truly want to inspire investors, they should put the funds on sale by giving that extra piece of money back to the customer.

It could be done with roughly the same logistical effort that goes into a dealer re-allowance. The adviser's commission could stay the same, with the fund simply waiving its share. That kind of move would send the message to customers (and not just brokers) that the firm has so much confidence long-term that it's willing to take less money up front.

Admittedly, $50 or $75 per $10,000 is a small enticement, but it might be enough to help overcome investor hesitancy.

With re-allowance programs having a history of failing to draw big bucks, it's worth a try. But don't hold your breath.

For investors, it's just another lesson in "know what you're paying for."

This may indeed turn out to be a great time to invest long-term (I believe it is), but before letting a financial adviser convince you of that, be sure you know if they're getting a little extra motivation to give the pitch.

Chuck Jaffe is mutual funds columnist at The Boston Globe. He can be reached by e-mail at jaffe@globe.com or at The Boston Globe, Box 2378, Boston, Mass. 02107-2378.

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