Fidelity and Vanguard Lay Together
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Tuesday, January 14, 2003

Fidelity and Vanguard Lay Together

Fidelity and Vanguard may be rivals in the marketplace, but they are joining forces to battle Washington. This morning the firm's two chairmen -- Vanguard's John Brennan and Fidelity's Edward Johnson -- coauthored an opinion piece published in the Wall Street Journal laying out the arguments for why requiring fund firms to disclose how they vote proxies is a bad idea.

While they may be correct in arguing the points as they relate to Fidelity and Vanguard and other industry conglomerates, the argument may not hold for all of the fund industry. Indeed, the disclosure industry may provide an opportunity for the scores of smaller shops whose business is not built around mass distribution.

The pair's argument boils down to a simple fear: additional disclosure will open up the fund sponsors to virtual extortion from fringe activist groups more concerned with promoting their agenda than in maximizing returns. "The threat is so severe that we, the leaders of the fund industry's two largest competitors, come together now, for the first time ever, to speak out publicly against it," Johnson and Brennan wrote.

"Simply put, we believe that requiring mutual-fund managers to disclose their votes on corporate proxies would politicize proxy voting. In case after case, it would open mutual-fund voting decisions to thinly veiled intimidation from activist groups whose agendas may have nothing to do with maximizing our clients' returns," they add.

They also offer some more technical objections to the proposed rule.

They contend that the rule change would make funds a unique class of shareholder since no other constituency is required to publicly disclose its votes. "If the SEC's proposed rule goes into effect, one -- and only one -- group of investors will be singled out to lose this right: mutual funds. Pension funds, insurance companies, foundations, bank-trust departments and other investors would retain their rights of confidentiality," they argue.

Finally, they believe fund shareholders would be overwhelmed with detail and therefore not be able to use any of it. According to the article, the proxy statements for funds holding 200 stocks could run to as much as 4,000 pages in length (they seem to be assuming that the entire proxy for each stock would be run in the report, not just a record of the vote itself).

As an alternative to the SEC proposal, Johnson and Brennan propose that the SEC enhance the proxy oversight role of mutual fund boards. They would want the boards to ensure that they hold their companies to clearly established proxy voting guidelines and that their adherence to the guidelines be subject to SEC examination.

Still, it seems that both Vanguard and Fidelity are out of touch with the zeitgeist on this issue. More importantly, their failure to read the mood of the times may open a door to smaller competitors to carve out a new niche.

The SEC reports that it received a far higher then average number of comments during the 60-day comment period. And, the decisive majority of those comments were in favor of the new rules. More disclosure may actually be something that fund shareholders want.

The measure of the demand could be taken by a fund firm that offers a "fully-disclosed" fund. In the current environment, such a strategy could actually be a far better way to differentiate a fund in a crowded market than with performance. It could also be a way to build a sustainable competitive advantage since the heavyweights in the industry are now unwilling to take a risk.

To date, the only firms promoting their disclosure of proxy votes are social investment funds. No traditional firm has made the leap. Yet, it may also be an idea that is no crazier than indexing was during the 1973-74 bear market, just ask John Bogle. Interestingly enough, the pair's article follows close on the heels of an opinion piece penned by Vanguard founder John Bogle. Of course, he thought the proposed rules are a good thing.

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