A Puzzling Suit

When an investor wants to buy shares in a typical mutual fund, he goes to one of the fund's own salesmen or to a broker who has been designated by the fund as its agent. For his services, which may include counseling but often consist of no more than filling out a form and mailing it in to the fund, the salesman or broker-agent is rewarded with the sweetest commission in the securities industry: an average of 8% to 8.5% of the total purchase price, compared with an average of 1.45% on trades in corporate stocks such as General Motors and U.S. Steel.

Last week the Justice Department declared that this arrangement--which mutual funds have for years argued is essential to their ability to market their products--violates antimonopoly laws, and filed suit in federal court to break it up. Three of the country's largest mutual funds were named as defendants. So were the National Association of Securities Dealers, many of whose 4,200 broker members act as fund agents, and nine major brokerage houses, including Merrill Lynch, Pierce, Fenner & Smith, Bache & Co. and Paine, Webber, Jackson & Curtis.

In effect, the suit asks that mutual fund shares be traded exactly like corporate stocks. A customer, in the Justice Department's view, should be able to pick up the phone, call any broker he chooses, and put in an order to buy, say, 100 shares of any fund he selects. The broker would then match his order with the offer of someone who wants to sell 100 shares (at present, mutual fund shares are nearly always sold back to the fund itself) and execute a trade at standard commission rates.

How such a trading market in mutual fund shares would actually work, if the courts eventually order one into existence, is something of a mystery. The price gyrations of the regular stock market, which are ruled by investors' shifting expectations of future profits, would seem to be impossible in a market for mutual fund shares. Funds are obligated by law to buy back their own shares at a price that reflects each share's equity in the fund's net assets. No seller would offer his shares at a discount in the trading market if he could sell them to the fund "at net." Nor would any buyer pay a premium to purchase shares from a private seller if the funds continued their present practice of offering new shares at a price determined by asset value. Indeed, Justice Department officials expect that mutual fund shares would trade at prices no different from those set under the present system. The only difference would be lower commissions.

On Wall Street, mutual fund executives were puzzled as to why the Justice Department had filed without warning a suit that some fund men believe was not completely thought through. Last month the Securities and Exchange Commission launched hearings on the marketing of mutual fund shares. Says Donald R. Pitti, president of Wiesenberger Services, a firm that analyzes mutual funds: "No matter how good the intentions of the Justice Department may be, its timing is horrendous." Officials of the department are known to have been watching closely a suit filed two months ago by a private investor who also contends that the present system is monopolistic. Apparently the Government trustbusters feared criticism from consumer watchdogs that they had left it to a private individual to break up a restrictive trade practice.

A Benefit. Though it may take years for the courts to decide the Justice Department suit, mutual fund shareholders may benefit from a much speedier resolution of a similar problem. Just as fund investors have to pay sales commissions when they buy shares, so do the funds have to pay commissions when they buy or sell stock for their investment portfolios. On transactions of less than $300,000, the commissions are fixed by stock exchanges.

Last week James Needham, chairman of the New York Stock Exchange, advocated scrapping the fixed-commission rule and allowing rates to be negotiated by the funds and the brokers who handle their investment business. The mutual funds, along with pension funds, insurance companies and other big investors, could then use their bargaining power to get commission rates reduced. Consequently, mutual funds could put more of their customers' money to work in the stock market, rather than paying it out in commissions to brokers who have already been handsomely rewarded by selling the funds' own snares to the public.

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