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Their Math Shouldn't Be a Problem

Strict Standards Govern the Reporting of Fund Company Figures

March 31, 1998|RUSS WILES | Russ Wiles is a mutual fund columnist for The Times and coauthor of "How Mutual Funds Work" (Simon & Schuster). He can be reached at russ.wiles@pni.com

Message to the Beardstown Ladies:

"We enjoyed the recipes and the tales of picking stocks in small-town America. But to make sure your performance numbers are up to snuff, you'd better hire a mutual fund company's accounting staff next time."

You've probably heard about the scandal that has tainted the reputations of the Beardstown Ladies, those grandmotherly investor-authors from central Illinois who this month acknowledged that erroneously high performance results were used to sell their books.

The Ladies touted a 23.4% average annual return from 1984 to 1993 and boasted of beating "mutual funds and professional money managers 3 to 1." But now they say they gained just 9.1% a year over that stretch, a figure easily eclipsed by the 12.6% average annual return logged by the typical stock fund at the time.

If there's a lesson to be learned from this unfortunate affair, it's that you should be skeptical of advertised or self-promoted investment returns that seem too good to be true--unless the party doing the touting is a mutual fund.

That's because no matter what you think about funds, you can be virtually assured that the prices and performance numbers they generate are, as a rule, beyond reproach. This doesn't mean that fund companies never err in crunching the numbers, or that they always get their prices out in time to be listed in tomorrow's newspaper.

But it does mean that those daily fund prices--and the performance figures derived from them over time--are nearly always honest and accurate.

Fund companies adhere to high standards and prescribed formulas when it comes to pricing their shares and reporting investment results, and they operate within an environment of intense third-party scrutiny.

The whole system of dependable reporting rests on the simple truth that fund companies themselves have no real incentive to fake their daily prices--the building blocks for those long-term track records.

Here's why: Mutual funds, under normal circumstances, must continually stand ready to sell shares to new investors or repurchase them from existing investors--all at a single price each day. If a fund company fabricated its price, it would either be selling shares below what they're truly worth or spending too much to purchase others.

"Because funds have to buy back shares on demand, the next logical step is to have daily pricing," said Chris Wloszczyna, a spokesman for the Investment Company Institute, a mutual fund trade group in Washington.

Of course, having good intentions is only part of the equation. A company still has to make sure the prices it lists are accurate.

That's no easy task, considering that the typical fund group must verify prices for hundreds if not thousands of securities each day. Gaining quotes quickly on small foreign stocks and obscure municipal bonds can be especially challenging.

Yet industry regulations require that all prices be compiled and checked for accuracy by 5:50 p.m. Eastern time, or the firm will miss the opportunity to move its prices to Nasdaq, which relays the numbers to wire services and newspapers around the country.

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"The Nasdaq deadline never changes," said Anita Falicia, director of fund accounting for Janus Funds in Denver. "If anything arrives late, it shortens the amount of time to verify that the information is accurate."

But if obtaining solid prices is a herculean task, it's one that fund companies have learned to accomplish. Computerization is key to enabling them to gain access to the prices they need quickly. Most families also maintain a small army of accountants who are entrusted with making sure prices check out each day. Janus, for example, employs a dozen accountants, each responsible for two or three funds.

It also helps that most firms rely on numbers supplied by one or more "pricing services" for deriving values of obscure stocks or bonds. These services also help translate prices of foreign investments into dollars.

Despite all the tools at their disposal, mutual funds sometimes miss their publishing deadlines, which means a blank will appear beside their names in the next day's newspaper. Less frequently, they make errors that are later corrected.

Usually such mishaps can be blamed on circumstances beyond a fund company's control, such as hectic market sessions that make it hard for pricing services to obtain information quickly.

But investors need to remember that the prices listed in newspapers are not necessarily the final, official ones--and that they aren't always the prices, or net asset values (NAVs), at which shareholder trades are executed.

"Our ultimate goal is to make sure that shareholder transactions are correct," said Falicia. "So while we may have an incorrect NAV in the paper, we'd never have an incorrect price for shareholder transactions."

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Also, a blank line in the newspaper doesn't mean a fund hasn't been priced that day, said Wloszczyna. "It just means they missed the deadline for getting into the paper."

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