More subprime woes, scant reforms in '08

January 01, 2008|By CHARLES JAFFE

My youngest daughter received some tarot cards and an instruction book as a holiday gift, and asked me if I knew how to use them. I told her I didn't need cards to foretell the future, because each year around this time I use my intuition - and some really good industry contacts - to predict the big stories the fund industry will see in the coming 12 months.

Since I started making prognostications in 1996, about 5 calls in 7 have hit the target, with one forecast being a bit too early and one being just plain wrong.

Surely, there will be other hot news in the fund world in 2008, but here are some stories likely for the new year:

A new system for benchmarking lifecycle funds ... or outrage over performance.

Investors in these funds are much less concerned with the broad market than they are about being on the path toward reaching their goals. Since performance varies widely in these categories, one of two things is likely to happen: Either investors will find out that the lousy target-date funds are laggards by any measure and not worth owning, or the ratings firms will find ways to better benchmark performance, so that a consumer has a good idea if the fund can actually meet their expectations.

A slew of class action lawsuits against funds burned by subprime problems.

There hasn't been a good wave of lawsuits against funds for years, but with funds like Regions Morgan Keegan Intermediate Bond fund and High Income fund, there's little doubt that the plaintiffs' bar has potential cases to talk about. Those funds were each hurt in their own way by investments made in subprime mortgages; in the case of the RMK funds, the fallout was disastrous, amounting to losses surpassing 45 percent.

More fund blowups due to subprime investments and the mortgage crisis.

When a fund gets into trouble on illiquid paper, it has a bit of leeway in reporting that trouble. Specifically, management is often involved in setting the value of its securities, and may hang on to some hope that bad, thinly traded paper will retain its value. Eventually, however, bad notes get properly valued.

While most observers believe the fund industry has done a good job of airing its dirty laundry, clearly there is more to come out in the wash. The losses in these latecomers will dwarf problems like those suffered by the RMK funds.

The closure of dozens - if not hundreds - of relatively new exchange-traded funds.

New exchange-traded funds are created virtually every day, but a lot of them are based on implausible investment premises and have failed to gain any traction with investors.

Prospectus reform that still doesn't help consumers.

The Securities and Exchange Commission is pushing for new prospectuses, and appears poised to push them through, but the proposals aren't such a radical change that the average investor will actually start reading the dumb things, let alone understanding them.

Mutual fund tax reform, a popular idea in an election year, getting no new love from Congress.

Reasonable mutual fund tax-reform proposals have drawn bipartisan support from dozens of lawmakers. A year ago, I said they would stall in '07 and that the best hope was that they'd become an election-year enticement in '08.

Not gonna happen.

The legislation wasn't just stalled in Congress, it was virtually ignored.

The Securities and Exchange Commission gives up.

The SEC has proposed some good reforms, but has backtracked away from ideas like the independent board chairman and more. The agency may have good intentions, but the best it's going to show fund investors in '08 is that new prospectus (yawn); it will take concern over some sort of scandal for the reform process to be reinvigorated (and luckily, I don't see that happening in 2008).

Board takes a fund away from management.

At some point this year, there will be a story about a fund board getting the backbone to pull a fund away from its current lackluster management and replacing it with something better.cjaffe@marketwatch.com

Charles Jaffe is senior columnist for MarketWatch and host of Your Money Radio. His postal address is: Box 70, Cohasset, MA 02025-0070.

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