Three Fund Firms Get More Shareholder-Friendly

As part of our work on Morningstar's Stewardship Grades for mutual funds, we closely monitor how well funds are serving their shareholders' best interests. If we see a meaningful decline in a fund's stewardship, we speak up, which certainly was the case when we lowered some  Janus funds' grades after some high-level manager departures in 2007. On the flip side, we think it's equally important to point to firms with improving stewardship. Three firms--FPA, DWS, and John Hancock--have all adopted better stewardship best practices that we think are worth a shout-out.

FPA Funds Get New Board Leader
In FPA's case, three of its funds' boards of directors elected an independent chairman in December 2007. The boards overseeing  FPA Capital ,  FPA Crescent (FPACX), and  PFA New Income (FPNIX) previously did not have a chairman, but each is now led by Willard Altman, one of the boards' independent trustees.

Altman's election to fund board chairman represents a best stewardship practice, in our view. Morningstar has been very outspoken in its support of the SEC regulation that, if approved, would require that fund boards be led by independent chairmen and be composed of at least 75% independent directors. We think that independent board leadership is a top industry practice because it addresses the inherent conflict of interest between the asset-management company running the fund and the fund's shareholders. For example, fund boards are responsible for negotiating a fund's fees on behalf of shareholders, and we think employees of the fund company may be less likely to push for lower fees because such a move would lower their firm's revenue.

This election by FPA's fund board is one of many moves that demonstrate these funds' commitments to serving shareholders well. The corporate culture supporting the FPA funds is one of the strongest in the mutual fund business. Robert Rodriguez, manager of FPA Capital for more than 20 years, is keenly focused on caring for investors' capital, which is one reason why he halted trading stocks and high-yield bonds on Dec. 15, 2007, and doesn't plan to resume until he feels that the true market risk is priced in. In addition to a strong corporate culture, the FPA funds have a trouble-free regulatory history, solid manager investment in fund shares, and very competitive fees on all but one of the firm's five mutual funds. Thus, with the new election of the independent fund board chairman, four of the FPA funds now earn A Stewardship Grades from Morningstar.

DWS Managers Get Push to Buy Funds
Another improving steward of fund shareholders' capital is DWS. Beginning in 2008, DWS will look to see whether its fund managers own shares of the funds they run when determining managers' overall compensation. The firm's new investment policy says that fund managers are "strongly encouraged to own shares of each fund they manage" so as "to ensure the alignment of portfolio managers' interests with the interests of their shareholders."

Fund skippers who invest in their own funds demonstrate conviction in their investing skills and align their own financial interests with those of shareholders. When fund managers invest substantially in a fund they run, they'll be very aware of the fund's expense ratio and tax bills because they'll be footing those bills. It's no coincidence that managers with really large sums in their funds run low turnover strategies and are careful about taxable distributions. If managers don't hold meaningful stakes, why should investors?

Manager investment in DWS funds has been far less than stellar, according to recent disclosures to the SEC. Of the 39 DWS funds that receive Stewardship Grades from Morningstar, only three management teams invested enough to earn full credit for manager ownership, and 28 funds didn't have sufficient manager investment to receive any credit for that portion of the grade. Still, we see DWS' ownership policy as a step in the right direction and a signal that the firm wants to improve its stewardship practices. We'll be watching to see if managers' ownership stakes in their funds indeed increase and thus contribute to higher Stewardship Grades for the firm's funds.

Hancock Gets Kudos for Hiring Subadvisors
Just this week, we issued new Stewardship Grades for 15 John Hancock funds. The overall grades are rather dim C's and D's, but we do applaud the firm's decision in recent years to hire subadvisors for some of its struggling funds. John Hancock Investment Management Services has been charged with evaluating in-house fund managers as well as outside subadvisors with the objective of hiring the best choice for fund shareholders. In some cases, in-house managers have been replaced, and we've been impressed with the subadvisors that JHIMS has hired in their stead, including Wellington Management and PIMCO.

We wish more firms--as well as the boards overseeing funds--would take this kind of objective, arms-length approach to evaluating managers. All too often, weak skippers are left at funds' helms when the industry is flush with better options. We think JHIMS' approach to evaluating fund managers is helping the firm shift its corporate culture to be more investor-focused. The Hancock fund boards, which are charged with renewing a fund's management contract each year, have benefited from the thorough analysis provided by JHIMS.