disclosure of market-timing restrictions

[Peter Gulia]

A participant (in a retirement plan that provides participant-directed investment) received a letter from the plan's recordkeeper informing the participant that the recordkeeper had been instructed by a fund to impose the fund's market-timing restrictions on the participant.

The participant feels a little offended because "no one told me ...." None of the plan's "fund fact sheets" say anything about market-timing or other disruptive trading. The prospectus for the restriction-imposing fund has a disclosure, which has no table-of-contents heading, is tucked away on page 47, and is in the middle of surrounding explanations that obviously are irrelevant to a retirement plan's participant. It is believable that someone who generally read the prospectus would have skipped over these sections.

While not giving to the offended participant's view, the plan's administrator believes it would be desirable for each fund's fact sheet (customized for the plan) to include a description of the fund's policy against market-timing directions.

The recordkeeper, which uses one of the big publishers to compile the fund fact sheets, says it can't be done.

Is the recordkeeper correct?

[My 2 cents]

Just wondering - what does one have to do to get a fund manager to impose market-timing restrictions? I presume that we are not talking about multi-million dollar transactions. What were they doing, moving money in and out two or more times every week? I would imagine that there are no self-directed retirement plans out there using any funds that would allow transfers in or out while the market is open, so three times a day transactions would not have been possible to begin with.

[Peter Gulia]

My 2 cents, you're right that this plan has no intra-day transaction. What the computers flag is a "round trip" in, out, and in again within a relatively short time, such as 30, 60, or 90 days.

Is it correct for a recordkeeper to say that it is impossible or impractical for a fund fact sheet to include one or two sentences on the fund's market-timing restriction?

[GMK]

It's appropriate to include information about any martket-timing restrictions on the fund fact sheet, but it is an ongoing chore to check and confirm that the situation is unchanged each month or each quarter for every fund. If the fund fact sheets are going to inform participants whether or not restrictions apply, then the information in the fact sheet has to be kept up to date whenever the fund changes it's restrictions policy. I don't know how often that may occur, but ongoing monitoring would be required for accuracy in the fact sheet.

Perhaps it would help some participants if the fact sheet included a general statement for the participant to check the prospectus to find out if the fund company imposes any restrictions on the frequency of trades.

And the SPD can talk about how investment directives might not be implemented in certain cases, such as, for excessive trading, market timing, or other legitimate reasons.

And while we're at it, what about fund fact sheets we see that do not include any risk information, not even a Std Dev or even a 1 to 5 risk rating?

[hr for me]

I'd include a general statement in the SPD or in other communications about moving money between funds/investment choices rather than a statement on any one specific fund, because I agree it would be hard to keep them all up to date for that one aspect. And that if they have a specific question about a specific fund to speak with their investment advisor (if one is a available through the plan or if they need one individually).

I do remember personally that when trading (either IRA funds or 401k funds don't remember) that often I would get a pop-up regarding the time between this sale trade and when I could buy-in OR between the buy-in and the sale. Not sure that was specific to the investment fund though.

[Peter Gulia]

GMK and hr for me, thank you for your helpful ideas.

Another curiosity: If it's difficult for a compiler of fund fact sheets to spot a change in narrative information, how does the compiler know whether the prospectus has changed its description of the fund's investment strategies?

[GMK]

Just guessing that they get the investment strategy summary from a fund's own summary description sheets (like the information on the fund's website), and if that changes, then (perhaps) they check it against the prospectus.

And I'd still like to know how they get away with not listing risk information on the fund fact sheet.

[Peter Gulia]

So does anyone know how the soup gets made?

[LANDO]

Section 2550.404a-5(d)(iv)(1) regarding investment disclosures, which is an annual requirement, requires "a description of any restriction or limitation that may be applicable to a purchase, transfer, or withdrawl of the investment in whole or in part (such as round trip, equity wash, or other restrictions)"

I would think the participant would have had to receive a disclosure regarding this.

Hmmm....I must be missing something here.

[LANDO]

I guess I understand if you are saying the trade restriction rules changed after the disclosures for the current year were made.

[Bill Presson]

Peter,

Generally the fact sheets are created by a large provider like Newkirk or Broadridge. They get the data they use from a data dump of information from the fund companies or another large provider like Blue River.

Generally the fact sheets (whether they include the actual restrictions or just a reference that there might be restrictions) are correct when created. But that doesn't mean they will always remain correct.

The daily recordkeeping system that we had in my former job would allow a flag where the participant could click a link to see the specific restrictions because the fact sheet might be out of date. Also (as hr mentioned), typically a flag would pop up if there was the possibility of short term redemption fees or market timing restrictions.

With all that said, it was practically impossible to ensure that every single fund in every single plan remained up to date every single day. The fund companies routinely made changes in those items. So when a trade would be entered, it was always possible that the fund company flagged it on their system and then notified the custodian.

But remember that the fund companies almost never have the participant data. So they are looking at the large trades. How closely they monitor the trades depends on how the custodian sets up the accounts (omnibus or individual plan). So the fund company would flag a trade and send a request (22-c2) to the custodian who forwards it to the recordkeeper to run a report and determine if there is a violation.

All in all not a great system, but there are very few fund companies that even do it any more. The last two years I was at WA, I think we only got one 22-c2 request.

[LANDO]

I think it typically falls to the recordkeeper, through their agreements with the mutual fund companies, to enforce trade restrictions and redemption fees at the participant level. If the recordkeeper doesn't enforce them, how would the mutual fund companies have any idea?

[Peter Gulia]

LANDO and Bill Presson, thank you for the further observations.

So the completeness of the fund facts sheet or a 404a-5 disclosure depends on the compiler, such as Blue River, Broadridge, Morningstar, or Newkirk?

[LANDO]

Right...well ultimately the 404a-5 disclosure is the legal plan administrators responsibility, but obviously they are most likely hiring their vendors to prepare them. We use Newkirk and they do include redemption fees and trade restrictions in the participant disclosures.

[SFSD]

We use Broadridge and find they are less than receptive to reqests for changes in fund fact sheets.

[K2retire]

I think that applies to most providers.