If a major change in direction or course is a "sea change," then the fund world is about to go through something that might best be described as a "B change."
If a major change in direction or course is a “sea change,” then the fund world is about to go through something that might best be described as a “B change.”
Franklin Templeton began phasing out the B share classes on all of its funds Friday, and it will discontinue B-share sales entirely at the end of February. The move by the nation’s fourth-largest fund firm marks the latest assault on an investment type that has come under fire from regulators for playing a central role in cases where rogue investment advisers abused clients.
Franklin Templeton’s move puts the entire B-share class on deathwatch, a stunning reversal when you consider that as recently as 2000, 80 percent of all entering broker-sold funds went into B shares.
Mutual-fund alphabet soup comes with funds served by brokers or planners. Regardless of the share class, the real issue with each type of share is how and how much the adviser gets paid.
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The traditional upfront load is the A share, where the client pays the sales charge all at once. If you invest $10,000 in a fund with a 4.5 percent load, it means that $9,550 winds up invested and $450 goes to pay the adviser and the firm.
Class B shares, meanwhile, charge no upfront sales load but carry a back-end load and higher costs. The additional expense ratio, effectively, is the consumer’s way of paying the sales charge over time. The back-end load shrinks over the first few years of ownership, until it disappears, typically after five or six years. At that point, most B shares convert into A shares, which have a lower expense ratio.
C shares, meanwhile, avoid both front- and back-end sales charges but carry higher costs than A or B shares and may carry those costs forever. They typically are the most expensive way to hold a fund for the long haul.
The problem with B shares has been the potential for a rogue investment adviser to use them improperly. An investor with a significant amount of money in A shares, for example, winds up getting to “breakpoints,” where the sales charges decrease.
There are no breakpoints in B shares, so a broker looking for payday plows big-dollar clients into B shares, rather than saving them charges by getting the reduced load in an A share.
In November 2003, the Securities and Exchange Commission alleged that Morgan Stanley brokers routinely failed to tell investors of the differences in the share classes. Morgan paid $50 million in fines, without admitting or denying guilt.
The National Association of Securities Dealers has brought more than a dozen cases alleging B-share fraud and has another 50-plus investigations in the hopper.
As a result, brokers and planners have been directing consumers elsewhere. Even where no fraud was occurring — and that was with the vast majority of investors — the idea has been to avoid even a whiff of trouble.
Assuming the entire B-share class disappears within the next 18 months — and it’s a safe bet — fund buyers must look anew at the “best type” of shares to own.
With a growing number of advisers moving to a fee-only basis — where they get paid based on assets under management, rather than based on putting money into specific funds — the real issue will be focusing on paying a reasonable amount for the service provided.
Chuck Jaffe is senior columnist at CBS MarketWatch. He can be reached at firstname.lastname@example.org or Box 70, Cohasset, MA 02025-0070.