Caught Between Two Principals

Mutual fund providers serve two principals with opposing interests: their owners, who want them to maximize profits, and their fund shareholders, who want them to maximize fund returns. I investigate what role is played by customer power and information, as well as by competition among fund providers in influencing the balance of power between these two opposing principals. Using a data set of essentially all U.S. mutual funds between 1992–2002, I find that customer power and information play a more important role than competition among fund providers to alleviate the agency problem between fund shareholders and fund providers. In particular, I find that fund providers shift advertising expenses via 12b-1 fees and research expenses via soft dollars (excess commissions paid by fund providers) onto fund shareholders. Expense shifting is much more pronounced for retail funds than for institutional funds, while it is much less affected by competition among fund providers.