Guidance to trustees about how to comply with the SEC's new requirement that Mutual Fund directors annually evaluate the board's performance. This SEC requirement follows an earlier ICI recommended “best practice”.

As someone with little financial experience, making the leap from saving to investing can be more than a little daunting, especially when banks pay consistent interest and guarantee deposits. However, interest rates paid by banks are typically much lower than rates available to investors, and could even result in financial loss if they are less than inflation. In order to make the switch from saving to investing, it is important to understand how the market works, the types of investments available, and the best way in which to meet your goals through investing.

Throughout the course of the long debate over the SEC’s proposed rule to require 75% independent board members and an independent chair on a mutual fund board, many observers have come to appreciate that the change is relatively small and quite subtle. After all the Audit, Nominating and Contracts committees are all chaired by independents and most fund groups already have a lead independent director. The real difference is in the explicit control of the board’s agenda. 

Mutual fund boards typically evaluate their compensation annually or bi-annually, often using the traditional method of comparing their compensation to that of a peer group of directors with similar governance responsibilities; that is, similar assets under management and number of funds governed. They will often try to set their pay at the 50th percentile—or perhaps higher, say 75%—of the peer group pay range. This approach potentially facilitates a “Lake Wobegone” upward spiral effect, in which all mutual fund directors are “above average” and pay levels continue to ratchet up on their own momentum.
Whether these increases are merited or not, this “outside-in” method of setting director pay may not truly reflect a fair value for the job. A more solid and rational technique would involve evaluating the various aspects and requirements of the job to determine what rate of pay would be appropriate to attract, motivate, and retain appropriate and competent directors. This requires more of an “inside out” approach. The E3 + O methodology described below examines the effort, expertise, exposure, as well as an additional element—opportunity cost—involved with serving as a mutual fund director.

The fund director is responsible for the trust and respect between the board acting on behalf of fund shareholders and the manager and its various advisers. This mutual trust is needed if a fund is to be efficient, effective and profitable for its investors. The code of ethics is one manifestation of this trust.
The panel drew a clear distinction between ethical behavior and the code of ethics. Ethical behavior is a much broader concept and is determined by respect for the law, social norms and the standard of behavior expected in a particular industry. The code of ethics is more precise in its construction and application, clearly delineating what is not acceptable in the trading environment of a mutual fund, its manager, sub-advisers and distributor.