|
 |
| 2003
News and Press Releases |
|
|
HEADLINE ARCHIVED:
IT'S 4 P.M.: HOW MUCH IS YOUR FUND WORTH?
By: Bruce G. McWilliams
NYTimes.com, November 9, 2003
_________________________________________________________________________
EXCERPT: The heart of the scandals rocking the mutual fund industry
is the arcane and sometimes arbitrary way a fund is priced each
day. Informational Web sites explain in general how a fund's
price is calculated: first, take the value of the stocks plus
any cash in the fund, add dividends, subtract expenses, and
divide by the number of fund shares. That produces the net asset
value per share - the daily fund price that is printed in newspapers.
The general concept is that the value of the assets should be
equal to the cash an investor puts in or withdraws. If the fund
is priced inaccurately, an unfair advantage is given to existing
shareholders or to those moving into or out of the fund. The
Investment Company Act of 1940 requires mutual funds to value
their holdings at least once a day; most funds close their books
at 4 p.m. sharp, which is also the close of regular trading
on the exchange floor. (Unique in the industry, the Fidelity
Select funds, from Fidelity Investments, reprice hourly during
the business day, allowing investors to profit from sharp industry
trends.) For the pricing of most securities, the late-afternoon
cutoff poses no particular problem; fund companies evaluate
their portfolios using the last traded price of the day. Data
services provide a stream of closing prices, which are then
applied against the fund's holdings to calculate the value of
the portfolio. But the process is extremely complex, said Thomas
Seale, chief executive of European Fund Administration, a specialized
firm based in Luxembourg whose principal activity is to calculate
net asset values for funds. The pricing "is exact for the
second it is completed, but goes stale immediately afterward,"
he said, and "therein lie the arbitrage possibilities."
For thinly traded securities, like smaller-company stocks and
junk bonds, or for foreign securities whose markets closed hours
earlier, fund companies generally estimate a "fair value."
In this instance, the fund is expected to provide a good-faith
estimate of the share's theoretical trading price at the cutoff
time. Pricing is complicated for many foreign securities because
Asian markets may close 12 to 15 hours earlier than the valuation
time, while European markets may close four hours earlier. This
is not a new issue, but it has certainly become a hot one. In
a letter in April 2001 to the Investment Company Institute -
the mutual fund trade group - the Securities and Exchange Commission
described the steps that sly investors could take to profit.
It gives the example of a "significant event," like
an increase in the American markets, that would probably lead
to a gain in Asian markets when they opened the next day. An
investor could buy shares of a fund holding Asian shares at
the 4 p.m. price and sell the next day, after the net asset
value of the fund had risen. (The letter is on the S.E.C. Web
site at http://www.sec.gov/divisions/investment /guidance/tyle043001.htm.)
The S.E.C. said it feared that "short-term investors may
attempt to exploit the differences between market prices that
are no longer current and the value of a fund's portfolio securities."
The continued arbitrage activity "also may harm shareholders
because it may cause funds to manage their portfolio in a disadvantageous
manner," the letter said. The fund manager may be forced
"to liquidate certain securities" or "maintain
a larger percentage of its assets in cash to meet higher redemption
levels." Eric Zitzewitz, an assistant professor of strategic
management at the Stanford Graduate School of Business, estimated
in a paper last year that international arbitrage investors
could earn 35 percent to 70 percent returns annually by trading
regularly after the close. On the other hand, if the fund manager
correctly estimates what the share prices will be for these
closed markets and includes them in the 4 p.m. cutoff, the possibility
of excess profit disappears.
|
|
|
