Mutual funds are subject to much more extensive securities regulation than industrial companies, which basically must only disclose what they have done. Mutual funds must meet similar disclosure requirements and, in addition, abide by a host of substantive regulations prohibiting or restricting certain activities. Some of these limits are justified on the ground that the assets of mutual funds must be relatively liquid so they can meet redemptions, and liquid assets are arguably more vulnerable to fiduciary abuses such as embezzlement than the fixed assets of industrial companies. But aren't marketable securities less subject to fiduciary abuse than fixed assets which have no readily ascertainable price? Other limits are justified on the ground that mutual funds are subject to potential conflicts of interest between the adviser and the fund. But don't the boards of mutual funds have more independent directors than the boards of most industrial companies? Still other limits are justified on the ground that mutual funds could use their assets to attain voting control of many operating companies. But couldn't this concern be met simply by establishing a maximum holding by a fund complex of a publicly traded company? Note that any one mutual fund may not purchase more than 10% of the voting stock of any one issuer. Moreover, as discussed in Chapter Eleven, certain commentators have urged mutual funds to become more active shareholders in holding accountable managers of industrial companies.
The 1940 Act contains an extremely broad definition of affiliate and then prohibits most transactions between affiliates and funds unless the SEC grants special permission (by rule or order). For example, if a bank has full investment and voting discretion over all its trust accounts and purchases 6% of Smith's Bond Fund with these trust assets, then Smith's Money Market Fund is presumptively prohibited from borrowing or effecting repurchase agreements from that bank. The SEC has granted relief in this situation, but it took years to obtain that relief and that relief is subject to many conditions. Whether this approach is too strict or too lenient depends on your assessment of the conflicts of interest involved in mutual fund investing, as well as the ability of the independent directors and the SEC to monitor those conflicts. In an industrial company, by contrast, its independent directors are generally allowed to approve transactions involving conflicts of interest if the directors conclude that such transactions are fair to the company.