Previous Columns
8:30 AM Thursday, September 1, 2005: Window dressing. Another reason to love mutual funds. Yesterday was the last day of the month. Mutual fund managers bought heavily to drive stock prices up. They bought two types of stocks:

1. Those stocks they owned. This made their gains for the month or quarter higher and their bonuses bigger.

2. Those stocks they didn't own, but should have -- like Valero Energy (VLO). By showing they owned hot stocks like Valero (up $9.71 yesterday), they showed how smart they were.

Many mutual funds only reveal what they own at the end of each month, e.g. yesterday. Although most don't reveal until the end of each quarter. The rest of the time they leave their mutual fund owners in the dark.

This practice of window dressing has three implications:
+ It misleads investors.
+ It makes the mutual fund managers get higher bonuses, which hurts investors. Unlike hedge funds, mutual fund managers typically don't have to repay last quarter's bonus, if next quarter they do horribly.
+ It generates higher brokerage commissions, which also hurts investors by needlessly running up the funds' expenses.


I sent the words above this morning to a friend who works in a mutual fund and asked him for comments. He emailed back:

"Like most things published in the press, it’s based on the truth but massively sensationalized. This does happen to some degree and you can see it in the stocks. I’ve worked at two of the biggest mutual fund companies in the world and never seen it happen (which of course doesn’t mean it didn’t happen). Our PMs (portfolio managers) and analysts are paid on three-year trailing numbers in order to make it impossible to get paid on this kind of stuff… essentially because it’s true that you don’t have to give up a bonus if you give up the performance the next quarter, our firm makes sure they never give you the bonus for performance that isn’t real."

We need to pay serious attention to our cash. Any of us with cash in a bank or with a broker need to check. In recent weeks I've written about:

1. A savings bank which is paying me 0.40% a year on a deposit on a condo.
2. Spurious "finance" charges that keep popping up in one of my brokerage accounts and remain irksomely difficult to get rid of.
3. My favorite bank told me it was paying interest on my checking account, but wasn't.
4. Another bank that refused to pay more than 0.40% a year on savings accounts for reasons it couldn't explain.

Now The Wall Street Journal has a piece on how brokerage firms are sweeping their clients' cash from money-market funds into lower-paying bank deposit accounts. Here's the Journal's chart, showing how you and I are being ripped off.

Here are some of the Journal's words:

In a development that hurts investors, brokerage firms are quietly moving their clients' cash from money-market mutual funds -- the traditional default option -- into lower-yielding bank accounts.

The shift, which is bolstering brokerage firm profits, means that investors with large cash balances could lose thousands of dollars or more in annual interest payments. These accounts are where brokerages typically park the proceeds from investor stock sales as well as dividends. Some investors also keep their portfolio's cash allocation in such accounts.

The average taxable money-market mutual fund is paying an annualized yield of 2.89%, compared with an average yield of 1.53% on bank money-market deposit accounts, according to iMoneyNet, a Westborough, Mass., research firm. For an account of $100,000, each lost percentage point adds as much as $1,000 a year in lost interest.

Although investors can opt into higher-paying money-market funds, they need to take the initiative to do so by contacting their broker. And brokerage firms are increasingly raising their minimum balance requirements for clients to be eligible for the higher-paying options.

Where idle cash was sitting didn't matter so much a year ago, when yields on both types of accounts were below 1%. But since the Federal Reserve started boosting short-term rates in June 2004, money-market mutual fund yields have shot past yields on many of these bank-sweep products. ...

Starting Sept. 1, new customers at Charles Schwab Corp. with less than $500,000 in household assets will have their cash swept into a deposit account at the firm's bank unit, and will no longer be able to choose a money-market mutual fund as a default sweep option. Morgan Stanley's Individual Investor Group, meanwhile, which currently has money-market mutual funds as the default cash-sweep option for its clients, is planning to make bank deposits the default option for more of its accounts later this year. ...

In February, the New York Stock Exchange warned brokerage houses that they could face possible enforcement action if they fail to disclose prominently that these so-called cash-sweep accounts often pay inferior rates to money-market funds. ...

In April, E*Trade Financial Corp. moved to a new rate structure that pays clients with bigger balances higher yields. The firm has swept about $6.4 billion in cash out of multiple sources, including money-market funds, into its bank since it implemented its cash-sweep product in September 2003. And Ameritrade Holding Corp. is gearing up to move customers' cash into cash-sweep accounts at TD Bank once it closes its deal to buy TD Waterhouse, the online brokerage unit of Toronto-Dominion Bank.

Since 2000, about $300 billion has been moved from money-market mutual funds to bank accounts at brokerage firms, according to iMoneyNet -- and as much as $100 billion that would have gone to money funds went to sweep accounts instead.

Brokerage firms say that changing the sweep option will bring more business to their banking units -- by making clients more comfortable using their banking services and keeping more of their assets in house -- and that this will help allow them to pay higher rates on other banking products or to trim trading fees.

Morgan Stanley says it is changing its program to be consistent with offerings in the marketplace, according to a company spokeswoman, while other firms, such as E*Trade, say the moves are part of their efforts to integrate their banking and brokerage businesses. Charles Schwab says its moves are a result of "changes in the marketplace" and its business.

Some brokerage firms have built in rate increases to their bank-deposit sweep accounts to make them more attractive to clients. Citigroup Inc.'s Smith Barney unit, for instance, pegs the rate on its account to the firm's taxable money-market mutual fund. ...

Shifting cash to bank-sweep accounts can be enormously profitable for the brokerage firms, since they can usually earn more money by reinvesting those deposits in higher-yielding securities or loans, which they are prohibited from doing with the money funds they manage. E*Trade, for example, says it has been able to lower the bank's funding costs or liabilities by replacing third-party borrowings with a lower-cost source of deposits.

Of the $103 million in revenue "synergies" that E*Trade expects to generate from its acquisition of Harrisdirect, a unit of Bank of Montreal, about $75 million should come from sweeping $3 billion in cash from Harrisdirect customers to the bank's sweep accounts.

Ameritrade, for its part, expects to generate close to $200 million in additional revenue from its acquisition of TD Waterhouse by moving customers' cash into TD Bank. And Schwab, which has started to move into cash-sweep accounts "conservatively," could sweep as much as $18.8 billion in its clients' cash into the bank -- which could boost its 2006 earnings by another 12 cents a share, estimates Richard Repetto, an analyst with Sandler O'Neill & Partners.

The score, according to The New York Times, is largely based on two factors: history of paying off debt and "credit utilization," or the amount of debt you have in relation to your credit limits. Fair Isaac Corporation measures this, along with three other factors, applies an algorithm to compare that data with the payment patterns of millions of other Americans and generates your FICO score.

Any number below 500 and you are a financial pariah. Get above 750, where 40 percent of Americans are, and the credit card companies will never stop plying you with offers. By paying money, you can find out your FICO. But ....

Here's the first rub, says the Times, the credit score you get is not really the score that a lender will use. Fair Isaac sells a variety of scores aimed at various markets. Its computers slice the data it purchases from credit bureaus any number of ways for clients. Some scores calculate the odds of a bankruptcy filing, while others help a collection agency predict the likeliness one will make good on a debt. Some lenders even have their own algorithm to generate a proprietary score.

"There are thousands of options and creditors choose which one they want," says Maxine Sweet, vice president for consumer education at Experian, one of the three major credit agencies. In fact, FICO uses Experian data to generate the score that is very similar to what the majority of mortgage lenders ask for, but Experian also sells a version to consumers called Score Plus.

You can also obtain a credit score called Empirica from TransUnion, and one called Beacon from Equifax, that closely approximate the FICO score. All the numbers are different, but are not supposed to vary much.

You really only need to look at one score. But MyFico.com and each of the credit agencies not so subtly urge you to buy more with a variety of products, including some that will give you constant updates of your score. If you are checking your credit report three times a year as you should, watching your score change every few weeks is complete overkill.

They also urge you to buy products to improve your scores. It is not unlike the way Kaplan, a unit of the Washington Post Company, or Princeton Review Inc. exhort people to improve their SAT or GMAT scores. "It's a nice analogy," Mr. Jolls said. The difference, he says, "is that not everyone goes to college and most people in this country use credit."

But does everyone need to obsess over this score? Suze Orman, the financial health evangelist, says they do. She sells a $50 product on MyFico that tells you how improve it. The advice is sound, but the truth is, nearly the same advice is found free elsewhere on the MyFico site. (Where the Orman package has real value is a feature to check your credit report for errors and automatically generate letters to the credit bureau to correct them.) "My advice is targeted to people who are broke," said Ms. Orman, whose latest book is titled, "The Money Book for the Young, Fabulous and Broke." "These are the people who need to get their scores up."

She is right, says the Times. But if you have excellent credit, you already know it. If you have bad credit, you also know that, too, and you should know what to do about it: pay your bills. It is everyone else who could benefit by knowing the score.

The people with scores in the 600's could profit the most by nudging it into the 700's. In that lower range, a difference of only a few points can mean paying thousands of dollars more in interest. In some regions like California and the Northeast, where home loans of more than $350,000 are the norm, anyone with a score below 660 will have trouble qualifying for a mortgage.

Widening the gap between your credit card limits and what you owe will pay off. Mr. Jolls says that a score can be raised 10 to 15 points in only a few months with a little discipline.

It seems fairly pointless to go through all that trouble if your score is already above 720. Since half of the credit score is determined by the length of time you have paid your credit card bills and mortgage payments on time, there is really little you can do to improve it except more of the same.

And if your score is above 780? Says Lara Blake, senior associate at Holmgren & Associates, an Oakland, Calif., mortgage brokerage firm, "It just means that you can frame the score and put it on the wall."

Some companies will charge you $50, even $100 for this advice. We give it to you for just the cost of today's newspaper (this is the Times speaking).

The credit score is determined by five factors, some weighted more than others. If your score is anywhere above 700, do not sweat it. Keep doing what you are doing. For everyone else, here's where to apply a little discipline so you look less like a credit risk, says the Times:

Payment History (35 percent): Pay your bills on time. The longer you do that, the faster your score goes up. It is that simple.

Amounts Owed (30 percent): If you have balances, start paying them down to zero starting with the cards carrying the highest interest rate. Consolidating debt onto one card can lower your score because a high ratio of debt to your credit limit, what the industry calls "credit utilization," looks like you are about tapped out.

Length of Credit History (15 percent): This category trips up people who think they are improving their credit by tearing up their credit cards. Do not close any accounts. It does not hurt to let them sit there, because the longer you have accounts open - assuming you pay on time - the better your score gets.

New Credit (10 percent): Ignore the come-ons from stores offering a discount if you open a charge account. Taking out more credit makes you look short of cash. But do not worry about shopping around for a loan. Inquiries from potential lenders hitting credit bureaus within a 30-day period aren't harmful.

Types of Credit Used (10 percent): Crazy as it sounds, if you have some debt you look better than someone who has none. So do use a credit card. If you have some small amount of installment debt -- as dumb as that is to do -- it can help to raise your score a bit.

What me, watch the news?

Gorgeous Picture. Enjoy.

Norwegian Moose Hunters
Two Norwegian hunters from Minnesota got a pilot to fly them to Canada to hunt moose. They bagged six.

As they started loading the plane for the return trip, the pilot said the plane could take only four moose. The two lads objected strongly.

"Last year we shot six, and the pilot let us put them all on board; he had the same plane as yours."

Reluctantly, the pilot gave in and all six were loaded. However, even on full power, the little plane couldn't handle the load and went down a few moments after take-off.

Climbing out of the wreck one Norski asked the other, "Any idea where we are?"

"Yaaah, I tink we's pretty close to where we crashed last year."

My heart goes out to the fine people of New Orleans. I'm saddened about the looting.

Recent column highlights:
+ US Tennis Open TV Schedule. Click here.
+ Manhattan Pharmaceuticals: Click here.
+ NovaDel Biosciences appeals. Click here.
+ Hana Biosciences appeals. Click here.
+ All turned on by biotech. Click here.
+ Steve Jobs Commencement Address. The text is available: Click here. The full audio is available. Click here.
+ The March of the Penguins, an exquisite movie. Click here.
+ When to sell your stocks. Click here.

Harry Newton

This column is about my personal search for the perfect investment. I don't give investment advice. For that you have to be registered with regulatory authorities, which I am not. I am a reporter and an investor. I make my daily column -- Monday through Friday -- freely available for three reasons: Writing is good for sorting things out in my brain. Second, the column is research for a book I'm writing called "In Search of the Perfect Investment." Third, I encourage my readers to send me their ideas, concerns and experiences. That way we can all learn together. My email address is . You can't click on my email address. You have to re-type it . This protects me from software scanning the Internet for email addresses to spam. I have no role in choosing the Google ads. Thus I cannot endorse any, though some look mighty interesting. If you click on a link, Google may send me money. That money will help pay Claire's law school tuition. Read more about Google AdSense, click here and here.
Go back.