August 22, 2006

The SEC believes that the key to an effective market is transparency, and it is under that philosophy that the regulator expects mutual fund companies and their investors to offer a window into the previously opaque activity of omnibus accounts. On Oct. 16, mutual funds must be compliant with SEC Rule 22c-2, which requires the board of trustees of mutual fund companies to determine if short-term redemption fees are necessary to prevent market-timing abuses. Additionally, to enable a fund to enforce redemption fees, the SEC is requiring that funds enter into written agreements with intermediaries -- any organization that sells shares of a fund to investors -- whereby those parties must be able to provide funds with shareholder identity and trading data upon request.

However, many investment vehicles, including retirement plans, invest in mutual funds on behalf of individual plan participants through omnibus accounts. In an omnibus account, trade activity in a single security from multiple participants across an investment vehicle is aggregated into a handful of trades, making it difficult to identify individual shareholder activity. As a result, prior to 22c-2, individual shareholder trade information executed through omnibus accounts generally was unavailable to mutual funds.

Further complicating the issue is that large investment companies with multiple retirement vehicles often combine omnibus activity across plans into a "super omnibus" account. While intermediaries such as defined contribution plans typically employ some form of in-house or third-party record-keeping service, "They are not equipped to gather all of this information and transmit it to someone else," contends Larry Goldbrum, general counsel of the SPARK Institute (Simsbury, Conn.), an industry association representing the defined contribution plan market. "You're talking about collecting massive amounts of data and some confidential information and transmitting it in a secure way."

Furthermore, Goldbrum adds, the complexity and confidentiality of outsourced record-keeping agreements exacerbates the problem. "You might have one company that provides record-keeping services for another company, ... and they may not even know who their customer's customers are. And yet, they may have to provide that information [to a fund company]," he says.

The intricacies of completing the necessary agreements into which fund companies must enter with their intermediaries, as well as the deployment of the necessary systems, is leading many, including the SPARK Institute, to call for a six-month extension to the Oct. 16 deadline, and an extension of 22c-2 looks likely, according to Goldbrum. "The staff at the SEC has said that they're going to recommend to the commissioners that they approve an extension," he reports.

A staff member confirms that the SEC's division of investment management expects to recommend an extension to the Commission. But as the October deadline looms, firms aren't waiting around with fingers crossed.