It looks like the mutual-fund industry is about to reopen a reform battle and will use an interesting new study as the first shot. The study is titled...

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It looks like the mutual-fund industry is about to reopen a reform battle and will use an interesting new study as the first shot.

The study is titled “Does Skin in the Game Matter,” written by four college professors, and it looks at whether funds perform better when directors hold shares themselves. The short summary of its findings is that when directors have some of their own money in a fund, the fund tends to perform better.
On a risk-adjusted basis, funds where directors have money riding along with the ordinary shareholders can do up to 4 percentage points better per year.

That’s interesting but not relevant to the issue where the study will fuel new debate.

Fund-industry insiders suggest the study can be used to refocus attention on the need for independent directors to oversee mutual funds.

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Last year, the Securities and Exchange Commission adopted a rule that requires 75 percent of fund directors, including the chairman, to be independent of the fund-management company.

The rule goes into effect next year, although the U.S. Chamber of Commerce has challenged it in court. It was enacted despite the objections of two of the five SEC commissioners, and over howls of protest from the fund industry.

Opponents of the rule suggest that the study is relevant because it shows that stock ownership has a direct impact on performance, whether the director involved is independent or a corporate hack. Moreover, it does not show any difference in that performance between interested and independent directors.

That’s a misdirection play.

“One thing that comes out quite strongly is that nonindependent directors — the guys affiliated with the management company — can have a really strong, positive effect on performance, so long as their interests are aligned with shareholders,” says David Weinbaum of the Johnston Graduate School of Management at Cornell University, one of the study’s co-authors.

“But we found that all directors can have a positive impact; they tend to have the biggest impact when they are shareholders themselves.”

Directors helped funds perform better by helping to reduce fees.

Supporters of the new independent-directors rule have suggested that boards need to think more like shareowners than like corporate management, particularly when it comes to approving cost increases. The new study showed that fees tend to be lower at funds where directors have a big ownership stake.

The biggest performance boost came when fund directors had significant investments in the fund or the fund family but had relatively low pay — from a fund director’s standpoint — of less than $75,000. By keeping pay down, but investments up — even if the investment is shares given in lieu of salary — Weinbaum said a firm aligns the directors most closely with shareholders.

While aligning directors with shareholders makes obvious sense, it doesn’t mean that regulators should go back on their plans and allow the divided loyalty of interested directors to continue. That would be a step back in fund reform, and it’s not a step regulators should be considering now, regardless of the next academic study that can be used to support it.

Chuck Jaffe is senior columnist at CBS Marketwatch. He can be reached at or Box 70, Cohasset, MA 02025-0070.