The Deception Series, Part 8--The Issue of Disclosure: Seeing is Believing

Part 8--The Issue of Disclosure: Seeing is Believing

One of the key issues concerning the Advisor Paid Fee (APF) and its first cousin, 12b-1 fees, is the claim that these monetary arrangements are made evident to shareholder via the traditional disclosure method, that is, the APF fee was fully explained in the Fund Prospectus.

The Prospectus is a legal document which explains, among other things, the key operational aspects and risks of investing in a mutual fund and its accompanying investment strategy.

Yet the APF was different since it allegedly explained an unusual fee arrangement.

Examples of Disclosure?
Here are a few examples of how the APF disclosure language appeared in several prospectuses issued by the WM Group of Funds and its successor company, the Principal Funds, Inc.. (The WM Group of Funds was purchased for an eye popping $730 million in December 2006 by the Principal Financial Group.)

Here is the specific language about the APF contained in the 2004 WM Broker-Dealer Agreement, specifically on the last page, and as the only section specific to WM Advisors Inc. That paragraphs reads:

“Whereas WM Advisors, Inc. recognizes that it will benefit from the sale of Shares of WM Strategic Asset Management Portfolios, LLC, WM Advisors, Inc. hereby agrees to pay to Selling Broker-Dealer, with respect to Shares of WM Strategic Asset Management Portfolios, LLC, a fee accrued daily and payable monthly at the annual rate of 0.50% (0.25% for Class C Shares) of the average daily net assets of such shares held by Customers for whom Selling broker-Dealer is a dealer of record, which fee is in addition to any dealer allowance, Sales Commissions and/or service fees payable by WMFD as set forth above. WM Advisors reserves the right to change the amount of, or to cease paying, this fee upon fifteen (15) days prior written notice to Selling Broker-Dealer.”

In the 2004 WM Group of Funds Prospectus, the following language regarding this fee also appears:

“Additional Information Regarding Dealer Compensation (italics in original) WM Advisors may make payments, at its expense, to dealers or other financial intermediaries at an annual rate of up to 0.50% of the average daily net assets of shares of the Portfolios.”

The March 1, 2009 Principal Funds Prospectus (A.B, and C shares) contains the following:

“An affiliate of the Distributor may pay to intermediaries, with respect to shares of the SMA (sic, this is a typo. It should be "SAM") Portfolios, a revenue sharing fee accrued daily and payable monthly at the annual rate of 0.50% (0.25% for Class C shares) of the average daily net assets of such shares sold prior to March 1, 2006, and held continuously by customer of the intermediaries, in addition to any dealer allowances, sales commissions, and/or service fees payable by the Distributor set forth above. This fee may be modified or terminated at any time upon notice to the intermediary and the intermediary may decline to accept this fee at any time upon written notice to the Distributor.”

While the language has changed over the years, the quality of the language remains consistently oblique for the average shareholder. It becomes even more oblique since the shareholder was never actually told (in the Webster’s Dictionary sense of the word), about the existence of this unusual revenue sharing agreement, and how it would affect the shareholder’s ethical relationship with their investment adviser.

It is also important to keep these disclosures in context; in the last example (the March 2009 Prospectus), this disclosure appears as a six sentence block of regular body type which is part of a 319-page prospectus.

Yet as courts have ruled in class action lawsuits, the APF was “disclosed” to shareholders in the SAM Portfolios, and as a result, those investors should have known about any potential conflicts of interest which existed between themselves, their advisors, and the mutual fund company.