mainefarmsforthefuture.com

By REX NUTTING

Quoted: “There’s not a doubt in my mind that you will see a spate of municipal bond defaults. … You could see 50 … to 100 sizeable defaults. More. This will amount to hundreds of billions of dollars’ worth of defaults.”

“When individual investors look to people that are supposed to know better, they’re patted on the head and told, ‘It’s not something you need to worry about.’ It’ll be something to worry about within the next 12 months.”

—Meredith Whitney, banking analyst, “60 Minutes” (12/19/2010)

The Reality: Rarely has a Wall Street analyst been so wrong so publicly.

In the year since Ms. Whitney predicted that the recession would force numerous cities and counties to renege on their debts, there have been fewer than a dozen municipal bankruptcies, and only two sizable ones—Harrisburg, Pa., and Jefferson County, Ala. Defaults have totaled less than $10 billion in a market worth $3.7 trillion.

Investors who ignored Ms. Whitney were rewarded handsomely, in part because the market crashed soon after her prediction. By springtime, however, the muni-bond market was rallying, with prices climbing and yields falling.

The bottom line? Muni-bond investors have earned about 10%, the best performance of any asset in the fixed-income markets this year.

Write to Rex Nutting at rnutting@marketwatch.com

Should accountants have term limits?

One giant company after another has gone bust without any warning to investors from its independent auditors that it was in danger. Like the credit-rating firms whose triple-A seals of approval often turned out to be signs of impending doom, accounting firms appear to have analyzed many companies not with green eyeshades but through rose-colored glasses.

One possible explanation: Auditors work for the same company for so long that instead of being independent, they end up co-dependent.

Christophe Vorlet for The Wall Street Journal

Since the Securities Act of 1933, public companies have been required to get independent audits each year, assuring investors that a fresh set of eyes has inspected the books.

But those eyes aren’t always the freshest.

According to Audit Analytics, a research firm in Sutton, Mass., 30% of the 1,000 leading U.S. companies have used the same firm to audit their books for at least a quarter-century. Fully 11% have used the same audit firm continuously for 50 years or more. Eight companies haven’t changed auditors in at least a century; the last time any of them hired a new accounting firm, William Howard Taft was in the White House.

The Public Company Accounting Oversight Board, which regulates auditing firms, is asking whether long tenure might lead to complacency. Late last year, the board sought opinions on whether it should require listed companies to rotate their accounting firms every few years.

The last of those 611 public comments came in to the PCAOB earlier this month.

An overwhelming 94% were opposed to term limits. The common refrain: Rotating audit firms every few years would raise costs, reduce the familiarity of accountants with a company’s books and impair the quality of audits.

PricewaterhouseCoopers and Deloitte pointed to studies casting doubt on whether changing auditors improves financial reporting. Ernst & Young said that some clients have threatened to hire a different firm if E&Y didn’t bless a dubious decision—which E&Y refused to do. KPMG said it evaluates the judgment and ethics of each partner at least once every three years.

“We know from our own inspection reports that there is a problem,” says James Doty, chairman of the PCAOB. “Without independence, it’s unlikely you’re going to get skepticism or a healthy look for disconfirming evidence.”

In a written pitch to prospective clients, one of the biggest accounting firms declared that “your auditor should be a partner in supporting and helping [you] achieve [your] goals…and not second guess our joint decisions.”

“That doesn’t sound like somebody who’s going to be independent, objective and skeptical,” says Martin Baumann, chief auditor at the PCAOB. He declined to name the firm that produced that proposal.

The problem, says Howard Schilit, an accounting expert at Financial Shenanigans Detection Group in Key Biscayne, Fla., is simple: “When you’re an auditor who’s trying to protect a long-term relationship, you have to suck up to the client, and the client knows it.”

A revolving door also needs to be walled off. With some restrictions, auditors can bounce between accounting firms and the companies they audit, raising potential conflicts of interest—as I can attest firsthand.

In 1992, I sat in the boardroom at the headquarters of JWP in Purchase, N.Y., interviewing the chief financial officer, Ernest Grendi. Critics had accused the industrial-contracting company of using aggressive accounting techniques.

JWP’s books had been audited since 1985 by Ernst & Young, where Mr. Grendi had once been a partner; the auditors there, he told me, were especially tough on JWP because he was an alumnus of the firm.

By the end of 1993, JWP had been placed into involuntary bankruptcy after revising its previous earnings and writing off more than $60 million in acquisitions and other assets.

Although he didn’t penalize the firm, a federal judge found that Ernst & Young’s auditors, because of their “close” relationship with Mr. Grendi, had “apparently lacked the backbone” to question JWP’s accounting. I couldn’t locate Mr. Grendi this week for comment. Ernst & Young declined to comment.

Accountants who audit a company for years know more about it, says Don Moore, a psychologist at the University of California, Berkeley, who has studied conflicts of interest. But that knowledge, he says, “comes at a great cost—a web of personal connections with the company that cannot help but influence an auditor’s preference for how the numbers come out.”

As the Arab Spring shows, presidents-for-life are finally going out of fashion. For the sake of investors, we should phase out auditors-for-life, too.

—
intelligentinvestor@wsj.com; twitter.com/jasonzweigwsj

By DENNIS NISHI

A few years ago while looking for work, Bryan Webb stumbled across a sales job opening for a company in Ontario, Canada, that he knew little about. He quickly researched the company and employees on Google and LinkedIn.com before contacting somebody who he knew who knew somebody who knew the chief operating officer.

After relaying messages through three degrees of separation, Mr. Webb secured an interview within 24 hours and a job offer after that.

Job hunters stand a better chance of landing a job when armed with an informed view of a company, its culture and—if possible—a direct introduction. Fortunately, there are many free online tools that can help you dig up what you need to impress potential employers.

Dennis Nishi

Research your target company. You don’t want to be jobless in a year because of sweeping organizational changes or a merger. Karl Miller was hired as an on-site consultant by American International Group in 2008, a week before the insurance giant went into a financial tailspin. He continued to get emails about a start date all the way up to the Federal Reserve bailout of AIG.

Websites like Google Finance, Google News and Morningstar.com can help you track the financials of publicly traded companies, and they can be customized to update you about any major changes as reported by the media or industry bloggers.

You also should research competitors—who may offer similar job openings—to get a better sense of how different companies position themselves in the market.

Check the company website to get a feel for the corporate culture and for job listings. You can look up recent company achievements, which are typically lauded in the press section of the website.

If you have trouble finding what you need, tighten your Google searches by using commands like [careers site:ford.com], which will limit results to only specific topics like “careers.”

Research people you’ll be interviewing with and potential co-workers.

The advanced search tab on LinkedIn can dissect a company by industry, job title and proximity to you. Members can also be sorted by degree of relationship, allowing you to find direct contacts who can set up introductions with key people outside of your network, says Krista Canfield, a spokeswoman for Mountain View, Calif.-based LinkedIn.

You can use Google Scholar, Patent Search and Twitter to become more familiar with the work of employees who have published papers, filed patents and tweet about work.

Facebook offers fewer search options but has greater potential networking opportunities, including groups within your career field.

Members will share inside information on jobs and companies, but be prepared to actively invest in the community. You can also “like” or “friend” corporate pages that will stream updates and job openings on your newsfeed.

Be tactical with your newfound knowledge, says Bryan Power, a people operations manager at Google. Don’t be a know-it-all.

Use your research to appear knowledgeable and try to frame answers positively, even if you know the exact reasons why your predecessor was fired.

Write to Dennis Nishi at cjeditor@dowjones.com

Edited by CRISTINA LOUROSA-RICARDO

The rules governing America’s most popular retirement vehicle are about to change. And that could mean huge savings for millions of workers who are building nest eggs for the future.

Spurred by the U.S. Labor Department’s effort to force plan administrators and investment companies to disclose the cost of 401(k) retirement plans, companies are looking to reduce fees and offer new investing choices.

Last week, the Labor Department released a final rule governing the disclosure by mutual-fund companies and other 401(k) administrators to employers of the fees they are charging to run the plans. Administrators will also have to disclose the costs to workers investing in the plans.

The deadline for the disclosures to employers is July 1. And 60 days after that disclosure, employers will have to provide detailed information to participants about fees, expenses and investment performance.

Until now, it has been difficult—if not impossible—for many 401(k) participants to determine how much they are paying in fees. The fees, which vary by type and size, aren’t typically disclosed in annual statements to investors.

Analysts and companies in the industry say the increased disclosure will allow companies to negotiate better deals and allow employees to request more cost-efficient plans.

Already, the prospect “is putting downward pressure on fees,” says Lori Lucas, leader of consulting firm Callan Associates’ defined-contribution practice.

Over the past few years, Fidelity Investments, ING U.S., Manulife Financial’s John Hancock unit and BlackRock have rolled out low-cost index target-date funds—a category that attracts a large portion of 401(k) investments—alongside their higher-fee actively managed funds.

Last month, Charles Schwab introduced a new 401(k) product consisting only of inexpensive index funds.

—Kelly Greene

and Anne Tergesen

The Wall Street Journal

Costly Living

Planning to retire this year? You could be starting off at a disadvantage—financially, at least—if you live in one of these 10 states.

TopRetirements.com, a guide to retirement destinations and communities, recently published its list of the 10 worst states for retirement, looking primarily at financial considerations. The site evaluated each state in terms of its fiscal health, property taxes, state income taxes and cost of living.

Here are the states where your retirement dollars might not go as far as you wish:

Connecticut. The report says the state has some great towns for retirees and “considerable charm.” But those charms come at a price: steep property and incomes taxes, and a high cost of living.

Illinois. Most pensions and Social Security payments aren’t taxed, but Illinois’s economic troubles—including deficit spending, unemployment and foreclosure rates—are “among the worst of any state,” according to the report.

Rhode Island. High property taxes are coupled with underfunded pension and health liabilities and budget deficits.

Vermont.Residents face “very high” median property and incomes taxes, the report says, as well as a top-10 cost of living.

Massachusetts. Social Security income and most government pensions are exempt from taxation. But property taxes are among the highest in the country.

Rounding out the bottom 10: New Jersey, Minnesota, New York, Maine and Wisconsin.

—Glenn Ruffenach

Encore Blog

SmartMoney.com

Delaying Payments

A revamped program launched last week aims to help homeowners who’ve lost their jobs from going into foreclosure. But experts warn there are drawbacks that could saddle some borrowers with even more debt.

Cash-strapped homeowners with a Freddie Mac-backed mortgage who are unemployed can now be absolved from paying their mortgage for up to one year while they try to find work. Previously, the company allowed a six-month break for such homeowners, and extended that period on a case-by-case basis.

Borrowers who decide to proceed with forbearance will need to meet several qualifications, including showing proof of a job loss.

While experts agree that the extension could help many borrowers, they warn that the program has potential pitfalls.

When the temporary relief ends, borrowers will have a hefty bill to pay. And they could find themselves in a deeper hole than they were before. Late fees aren’t added to the mortgage while it’s in forbearance, but interest is accruing and the unpaid principal that would have been paid during the relief period will be due when it ends.

Freddie Mac says the borrowers who aren’t able to pay that amount in one lump sum could be offered alternative payment options, such as paying that amount over time while simultaneously making their regular monthly payments.

—AnnaMaria Andriotis

Real-Time Advice Blog

SmartMoney.com

Dream House or Spouse?

It may not be possible to put a price on love, but the square footage and location of where that love story takes place is a different story.

Many couples take their potential partner’s apartment into account before entering into a relationship, according to a survey by Rent.com and RedShift Research, and are reluctant to pack their bags if the relationship breaks up.

Real estate apparently holds value better than relationships. Given the choice between their dream home and a perfect spouse, 30% of the 1,000 Americans surveyed said they would choose the dream home.

—Quentin Fottrell

Pay Dirt Blog

SmartMoney.com

By SANDRA WARD

It’s TiVo‘s time, again.

The company that introduced the digital video recorder 15 years ago and then faded from view once the dot-com bubble burst is back in the

spotlight: In the past year, it has emerged victorious in two important software-patent litigation cases, and it is winning new subscribers on the strengths of a redesigned “smart” DVR that integrates Internet and television content and is a cinch to navigate.

Users can stream movies and music and tap into an extensive on-demand library, as well as record programs and zip past commercials, with ease.

The U.K.’s Virgin Media, for example, credits customer demand for TiVo’s Premiere set-top box and services as a big reason Britain’s No. 2 cable company reported a gain in net income of 30% in its just-reported fourth quarter and a jump in subscribers.

TiVo’s shares (TIVO) have run up nearly 70% since last August on the strength of a $500 million patent-settlement with Dish Network and its sister company EchoStar, followed by a settlement with AT&T where the total payout could eventually reach $300 million.

But there is still room for appreciation in TiVo shares from the current level of about $12.

The company carries slightly less than $7 a share in cash on its balance sheet, making its valuation even more compelling.

TiVo’s recent legal victories bode well for a similar outcome in pending litigation with Verizon. Also, it is adding subscribers for the first time in years.

Wall Street puts a value of between $17 and $18 on TiVo stock, based on a sum-of-the-parts analysis.

In a takeover—which many speculate will be the ultimate fate of the Alviso, Calif.-based company with its modest market value of under $1.5 billion—the shares could potentially fetch in the mid-$20s.

That’s a return on investment investors might want to subscribe to.

Sandra Ward is a senior editor for Barron’s. For more stories, see barrons.com.

Exchange-traded funds are GREAT. Just ask anyone who works in the business. Go to a conference or even a casual meeting on the subject and you will be barraged by a level of cheerleading that doesn’t occur elsewhere in the financial industry.

And that’s saying something.

There is reason for some of this enthusiasm, of course. Because ETFs are an easy and cost-effective way of owning (or hedging) large and small parts of the market, they have captured the interest (and $1.2 trillion in U.S. assets) of long-term investors, day traders, institutional investors and financial advisors.

ETFs enable buy-and-hold index investors to do so cheaply; allow macro-oriented active investors to implement their strategies by making broad calls on a particular asset class or sector quickly and easily; and provide those interested in alternative strategies, such as commodity or currency investing, with another mechanism.

But with some 1,400 ETFs on the market and another 900 awaiting approval from the Securities and Exchange Commission, isn’t it enough already?

Not by a long shot, according to insiders. The ETF industry is heading towards ever-more-niched products. Some are narrower indexes, or represent more far-flung markets; some are fundamental, or “rules-based,” indexes, which weight securities by factors other than size. Some are as simple as equal-weighting the Standard & Poor’s 500, or as complex as any system a value manager would use.

Then there’s the notion of actively managed ETFs, an idea that hasn’t as yet generated the same zeal. Actively managed ETFs represent a fraction of the industry, with just $5 billion in assets. There’s a potential game-changer on the horizon, however — the launch of the Pimco Total Return ETF (ticker: TRXT), scheduled for March 1.

In light of the explosive growth and the imminent introduction of an important new fund, we decided it was a good time to chat with a few industry leaders and observers. We wanted to break through the marketing-speak and see if we could get them to shed a little light on how (and why) new products are created, and what’s driving their remarkable gains.

Our Roundtable includes four ETF-marketplace pros.

Jennifer Grancio is a managing director for iShares, the largest family of ETFs. Owned by BlackRock, the world’s largest asset manager, iShares offers 260 ETFs in the U.S. with $498 billion in assets (that’s a 43% share of the U.S. market). And BlackRock has been at the forefront of many regulatory issues.

Index Universe specializes in ETF research and analysis, publishes the Journal of Indexes, and puts together some of the best-attended industry conferences. Matt Hougan is its president of ETF analytics and global head of editorial.

Natalie Zahradnik is a senior vice president at Pimco, responsible for the firm’s ETF strategy and distribution. Pimco is the world’s largest bond shop, and a small but hugely influential player in the ETF space. It offers just 17 ETFs, although the largest of its four actively managed ETFs, Pimco Enhanced Short Maturity Strategy, better known by its ticker, MINT, has $1.4 billion in assets, nearly 30% of the $5 billion in the actively managed ETF marketplace. All eyes are on the firm’s launch of its ETF iteration of the behemoth Pimco Total Return mutual fund (PTTAX). Investors’ response to this ETF will be an important test of the ultimate popularity of actively managed ETFs.

Charles Schwab offers 15 ETFs for a total of $6 billion in assets, but Michael Iachini’s focus is the entire universe of ETFs. He is managing director of ETF research for Charles Schwab Investment Advisory, a unit that focuses on providing independent ETF research and advice for retail clients.

Here’s what our experts had to say about the enthusiastic state of the business.

Barron’s: Let’s start with the question everyone has been asking: How much is too much? At what point do we have enough ETFs?

Iachini: The market will decide. It isn’t that unusual to see an ETF close. A lot of providers have rolled out products, left them out there for a year or two, and when they don’t get any assets, they close. But most ETFs find a niche with some advisors or some individual investors.

The mutual-fund industry has 6,000 unique funds. If active management comes along, quite possibly you might see that many ETFs.

Hougan:There are areas in the market that ETFs have just opened up in the last year or two, like international fixed income. Every time you think the ETF market has it covered, there are new areas that are launching and launching and launching.

Michael, you mentioned that ETFs that don’t get any traction will close. What does it take to make an ETF viable? Clearly, there are issues of scale, and BlackRock and Pimco are able to let a fledgling ETF go longer or even indefinitely without much in assets. But what’s the rule of thumb?

Iachini: We assume that once it has $50 million in assets, the ETF isn’t likely to close. But a lot aren’t there yet.

Hougan: There are 360 ETFs with less than $10 million in assets; that’s 25% of the industry. And there are more than 500 with less than $25 million. All those funds are largely uneconomical. But I have never seen a product close with more than $33 million in assets. We talked to every provider that had closed a fund, and came up with six criteria. Assets are just one piece of it. Providers also look at performance and trading volume. They look to see if there is a competitive product that has more traction; if it’s the only product in its category, they may wait until that category gets hot, and then look at performance.

Then, of course, there’s the strength of the issuer. A firm like iShares is less likely to close a product than a fledgling ETF company.

Grancio: We don’t have a rule of thumb that if an ETF doesn’t crack an asset level we’ll shut it down, because we believe in building suites of products. We don’t look at one fund in isolation. We’ll look at where we are in a market cycle, and if there are competitive products that are getting more traction. That said, now that we have more than 400 products, we will increasingly look at where it might make sense to exit.

Zahradnik: The part about market cycles is really important. We think about it at Pimco, because we’re often coming out with products that are best for, say, a certain yield-curve condition. But we want to come out with a whole range of products with different durations. Not all of those products will be appealing at all points in the economic cycle.

If an ETF announces a closing, should investors sell, or just wait to get their money back or put it into another fund?

Hougan: They should definitely sell, for two reasons. First, when an ETF winds down, it has to sell all of its positions. So the likelihood of getting a capital-gain distribution at the end is relatively high. Secondly, there has been at least one case where the closing company stuck the last shareholders with the legal costs, which is really underhanded. But it was going out of the ETF business completely, so it didn’t care. That isn’t the norm, but why take that risk? Once you hear a fund is closing, you should sell it.

Iachini: Also, if you are an advisor, you are going to get uncomfortable questions from your clients. You want to avoid buying ETFs for your clients that are going to go out of business in the first place. We don’t even look at anything below $20 million in assets; if the ETF has more than $50 million you are almost certainly safe.

Grancio: I would say $50 million is the low bar, in terms of economic viability. Depending on the strategy, $50 million to $150 million might be a better range.

This raises the issue of concentration. This is a highly concentrated industry. iShares has 43% of all U.S. ETF assets; State Street, the second-largest ETF provider, offers the largest single ETF, the
SPDR S&P 500
(SPY), which has $99.4 billion in assets, or nearly 10% of the industry in one fund. Vanguard, the third largest, saw the most inflows in 2011. These three firms manage 83% of all U.S. ETF assets. This seems like an industry for titans.

Grancio: If you look at new money coming in, it isn’t just the big providers getting a bigger share of the market. Last year was very different from 2009 and 2010, when it really was iShares, State Street and the like getting the biggest inflows. In 2011, 17% of inflows went to smaller, up-and-coming ETF providers.

Hougan: But in terms of products, you have to ask: Why is concentration a problem? In my opinion, the amount most people should have invested in an ETF is inversely related to the amount of hype around those ETFs. The bulk of your money should go into these plain-vanilla products. SPY should be huge. But as Jennifer says, you have seen some quantitative funds gain some traction. You’ve seen Schwab come out of nowhere and gain $5 billion in assets, proving that distribution is important.

The issue of distribution, of course, is essential in the discussion of Fidelity’s announcement that it has filed with the Securities and Exchange Commission to launch a roster of index ETFs. Are they too late, or too big to be ignored?

Iachini: If you aren’t going to be first, you have got to be better. And so, the question is, what’s their twist? What’s their improvement? If it’s a good one, they will succeed.

Hougan: It’s hard to argue with that. It depends on how they manage their distribution — do they reach into the 401(k) space? — and how serious they are about it.

They’re the largest 401(k) plan provider. Why wouldn’t they leverage that?

Hougan: Because they’re making 80 basis points on their active funds, and they aren’t going to make that on an ETF. That’s why it has taken them so long to get serious about ETFs.

You have to really be willing to cannibalize your core business. It is a classic case of creative destruction, and that is a hard thing for firms to do. Very few firms do it well. BlackRock is a phenomenal example, because they bought iShares, which was a brilliant move.

Iachini: Right. You are going to have fights over marketing dollars. You are going to have people that believe in it, and people who don’t believe in it.

Fidelity has refused to describe the”Master Feeder” structure its ETFs will use, but many have speculated that it’s similar to the Vanguard strategy of ETFs being a share class of a mutual fund. Can you explain that?

Hougan: Because Vanguard ETFs are share classes of mutual funds, they have a master pool of assets. That makes all their funds more tax-efficient. Plus, new ETFs can tap into a broad pool of established assets to get massive diversification, which is particularly helpful in the bond space. It’s a brilliant strategy, and they patented it, so no one else can use it.

Zahradnik: The other thing that often gets overlooked when discussing the Vanguard structure is that there are differences in disclosures. Vanguard ETFs only disclose quarterly, with a lag.

How do you develop a new ETF?

Zahradnik: Since at Pimco we are very focused on fixed income and active management, we certainly start with the perspective of an active manager. We start out thinking: If we had to manage our portfolios as an ETF, what would we do?

We have the same approach with our index ETFs. You can see it in the way we’ve divided up different indexes, and the way that we approach index-optimization.

What’s index optimization?

Zahradnik: In virtually every fixed-income fund, you’re not fully replicating an index. You just can’t hold every single security in the index.

The index-optimization process looks at the characteristics of the underlying assets in the index, and chooses which securities best replicate or track the index. So we look at various different risk factors, as well as liquidity and credit characteristics, and try to match them to our underlying ETF securities, so it will be closer to tracking the index.

Do you have a particular end-user in mind when you create an ETF? Either a retail or institutional investor, or one with a long- or short-term horizon?

Zahradnik: No, we try to make them for a broad audience. Our holdings are roughly 50% retail, 50% institutional, which is pretty true throughout the industry.

Jennifer, does BlackRock take the same approach?

Grancio: We often get ideas from institutional clients. For instance, the government of Peru is trying to increase foreign investment, and approached us about a Peru ETF that would trade in the U.S. We have some institutional clients who run very sophisticated portfolios, and want finer and finer slices of the market. We’ll also get ideas from the retail space, from asking advisors what they’re seeing. And sometimes our ideas are simply a product of innovation, looking at the market and figuring out a smarter way to index.

Surely you can’t create an index every time someone asks you to. What are your criteria?

Grancio: We will ask a series of questions. Is there already a good index for this? Is the market investable? Can the product be liquid enough? Can it be tradeable? Will it function at the highest level of quality? There are a lot of products on which we spend quite a lot of time, but they don’t work out because of one or more of these factors.

Like what?

Grancio: Two examples that eventually worked out are India and Russia. Investors had been looking for exposure to these markets for a decade, but because of the way they were structured, there wasn’t enough liquidity or legal protection. Now there is, but we waited until we had quality control and the ability to protect investors.

So how important is it to be first? If the Peruvian government gets BlackRock on the phone and iShares comes out with the first Peru ETF, does it make sense for another firm to come with a second?

Grancio: Being first is a nice advantage, because liquidity matters.

If the first ETF is a quality product, it will tend to attract assets, and the bigger it gets, then the bigger the gap between that first highly liquid product and any new entrant. But there is definitely room in any major market for multiple competitive products. But the longer the lag time between the first and second, the harder it is for the second to gain liquidity.

Hougan: All that said, I would use an example from Jennifer’s own firm, which was the first to move into China, launching iShares FTSE China 25 Index fund [FXI]. It was great because China was hard to access, and it held the 25 most liquid stocks. Investors loved it because most were underweight China, and China is a great story, so they piled in. More recently iShares launched iShares MSCI China Index fund [MCHI], which is a much broader China fund. It holds hundreds of securities, which is really what most investors want.

Iachini: Like I said earlier, if you’re not the first, you have to be better. If you just do the same thing as somebody else, you probably aren’t going to attract the assets. “Better” can mean lower cost, especially since the first mover often charges a premium.

The industry has suffered a bit of a black eye in the past year, and has been blamed for much of the market volatility we’ve seen and even the flash crash in May of 2010. What do investors need to know?

Zahradnik: People link the flash crash and the growth of the ETF industry together, but that isn’t fair. The flash crash was a disruption in the equity market. ETFs come into the mix there because they trade like a security, and some 30% or more of the trading volume on average is in ETFs. So there is nothing about the way an ETF is structured that would cause a flash crash, but they are 30% of what happens on the exchange.

If ETFs are 30% of the trading volume, why aren’t they the source of volatility, if not the flash crash?

Grancio: I don’t know that I would agree with the link between ETFs and volatility. From a macroeconomic perspective, we are in the midst of a very volatile market, which happens from time to time. Rather than making a bet on a particular company, people are saying, “gee, I want to make a bet on developed markets” or “I want to make a bet on Treasuries versus credit.” People moving around markets is what’s causing the volatility.

Since ETFs enable that kind of trading, aren’t they exacerbating the volatility? Plus, arbitrageurs take advantage of the ETF structure by trading the underlying securities and creating or redeeming ETF shares — a tactic that keeps most ETFs from trading at a discount or premium to their holdings but contributes to trading volume.

Zahradnik: People use ETFs for risk management. So during volatile markets, there’s more ETF trading, but that is in part because people are moving into the market to hedge. Fixed-income markets are a very good example of this; when there’s no trading in the underlying fixed-income markets, such as after the Lehman bankruptcy, people will move into the ETFs because they will continue to trade. But that isn’t causing more market volatility; it’s that if there is market volatility therefore there is trading in ETFs.

Iachini: I would say it is true that ETFs give investors an easy way to react to volatility if they want to; that doesn’t mean they’re causing it.

It isn’t just that it’s an option or an advantage; ETFs are marketed as products that enable that kind of trading.

Iachini: That isn’t how we talk to the investor. But sure, we know that investors do behave that way. Investors can be very tactical, you could say, or speculative, depending on how you want to look at it. But that doesn’t mean that’s what you have to use ETFs for. Certainly lots of folks are using ETFs for a long-term asset-allocation plan.

Let’s talk about what is probably the most widely anticipated new exchange-traded fund: Pimco’s Total Return ETF, due to launch March 1. Pimco has been at the forefront of actively managed ETFs, but has offered strategies with narrower appeal. Total Return is the broadest strategy yet, and the first from a manager the likes of Bill Gross. How important is it to be first?

Zahradnik: It isn’t insignificant, but it’s going to boil down to performance.

Is your ETF strategy separate from your mutual-fund strategy?

Zahradnik: We haven’t taken that route. It’s the same portfolio managers, no matter what the strategy or asset class — alternative, cash, munis, total return — the selection process is exactly the same for funds and ETFs.

Except that the mutual-fund versions of Pimco’s multiple Total Return strategies rely heavily on derivatives, the use of which the SEC has prohibited in actively managed ETFs.

Zahradnik: True, we use a lot of options, futures and swaps in the mutual funds. So the strategy is the same, but how we would implement that strategy is different. For instance, we might use interest-rate swaps to change the duration of the fund. In the case of our ETFs, we’d buy cash bonds instead.

Natalie, you said earlier that you can’t comment further — until the product launches — and Jennifer is a rival, so let’s turn to Matt and Michael for their take. Is the launch of this ETF as much of a sea change as people are saying?

Hougan: Total Return ETF shows both where active management of ETFs will succeed, and all the many places it won’t. The Total Return ETF will be hugely successful because it has a 25-year track record associated with it, and there aren’t that many [skilled and well-known investors like] Bill Gross in the industry. And the ability to buy that in an ETF at low cost is phenomenally attractive.

With $244 billion in assets, Pimco’s Total Return is the world’s largest mutual fund, and that’s after last year’s record outflows of $5 billion. So there’s no shortage of people willing to pay the 0.9% (or 0.46% for institutional investors). Granted, the ETF will charge just 0.55%, but it also won’t have all the tools the mutual fund can employ.

Hougan: Well, price becomes increasingly important as you get into a lower and lower return environment. Part of why ETFs are becoming so popular with advisors right now is that we are adjusting — to use Pimco’s term — to the new normal, and returns are smaller.

You also said this launch will herald the ways actively managed ETFs won’t succeed.

Hougan: The challenge for active ETFs — and why I’m somewhat skeptical — is how they launch and incubate differently. Mutual-fund firms launch 20 funds in a scatter-shot approach, wait three years until they get their Morningstar-star ratings, and then they shoot all the dogs. Whatever good funds that are left they advertise to the moon and huge assets roll in. That works in the mutual-fund space, because during those three years, I can still buy or sell even a tiny mutual fund at exactly the price of its underlying assets.

In the ETF space, if you launch 20 ETFs, you can’t just let them incubate for three years. They won’t accumulate any assets, because they’re new, and many will be from untested managers. And a fund with very little in assets and very little volume will trade at wide spreads. So anyone who is actually in the fund will be disadvantaged because they can’t get in and out at a good price.

It’s much harder to incubate in the ETF space, and that will be a major hurdle for active ETFs.

OK, Matt and Michael, since Natalie can’t guess, I’m going to ask you two to predict what Pimco’s Total Return ETF will have in assets one year after its launch.

Hougan: You want a number?

Yes.

Hougan: What do I win if I get it right?

A free subscription.

Hougan: Deal. In a year, I think it will reach $1.4 billion.

Iachini: I’m going to guess a lot lower, I’ll say $150 million. But Matt’s probably right on this one, by the way.

Hougan: This makes it more interesting.

Iachini: Yeah, I’ll be out here telling folks to wait at least a year. We’ll see if they listen to me.

Hougan: I’ll be telling them the same thing.

Iachini: But you’re more realistic about your influence than I am.

Thanks, everyone. 

By KELLY GREENE AND ANNE TERGESEN

Reverse mortgages have long been considered one of the most expensive ways to extract cash from your house. But that is changing as some of the country’s biggest reverse-mortgage lenders are slicing closing costs—helping even some affluent homeowners who want to generate additional income.

Reverse mortgages allow people who are 62 years old and older to convert their home equity into cash. Instead of the homeowner writing a check to the bank each month, the bank pays the homeowner, who can elect to receive a lump sum, a line of credit or monthly payments. The loan is due, with interest, when the borrower dies, moves, sells the house, or fails to pay property taxes or homeowner’s insurance. Heirs typically sell the house, pay the balance and keep whatever is left.

One of the biggest criticisms of reverse mortgages has been the fees, which can total 5% of a home’s value. But the new cuts in fees mean that some homeowners can save $10,000 or more on the closing costs.

Genworth Financial Inc., Bank of America Corp., Wells Fargo & Co., OneWest Bank’s Financial Freedom unit and other lenders also have dropped or reduced their origination or servicing fees, or both.

Why are lenders cutting costs now? To drum up business. From Oct. 1, 2009, to March 31, 2010, home-equity-conversion mortgage volume fell 22% from the same period a year earlier. One reason: In response to falling home values, the Department of Housing and Urban Development cut the amount of equity that reverse-mortgage borrowers could extract by 10% last October.

That meant some homeowners no longer qualified for a large-enough reverse mortgage to pay off their regular mortgage—a basic requirement for getting such a loan approved. And some consumers have been dismayed by falling home values and postponed taking action.

Another factor: In the past two years, lenders have started securitizing reverse-mortgage loans by converting them into Ginnie Mae-backed bonds. Popular with investors because of their government guarantees and high yields compared with Treasurys, these bonds also have been more profitable for issuers than selling them to Fannie Mae, the main alternative, says Peter Bell, president of the National Reverse Mortgage Lenders Association in Washington.

Mary Hobbs, 69, is closing on a reverse mortgage with Security One Lending of San Diego for her three-bedroom home in a retirement community in Lincoln, Calif. Her goal: to pay down her mortgage and replace some of the income she lost when a real-estate loan she had made on another property recently went bad. Because of cuts in closing costs, Ms. Hobbs will now be able to borrow an extra $10,400, bringing her loan total to almost $368,000.

MetLife Inc. dropped its reverse-mortgage origination fee and monthly servicing charges in March. One of the firm’s consultants, Sandra Clements, says she is hearing from better-off older homeowners who would like to tap their home equity to help fund their retirements, but who previously were put off by steep closing costs.

Origination fees are allowed to run as high as $6,000, by federal law, while the monthly servicing fee is typically charged up front as the “present value” of those costs for a number of years set by the lender. One big expense for homeowners remains: mortgage insurance, which HUD requires for most products.

So far, the cuts in fees apply mainly to one type of reverse mortgage: the plain-vanilla fixed-rate “home-equity conversion mortgage,” which is backed by the Federal Housing Administration and is paid out to the borrower as a lump sum. That product accounts for about 60% of reverse mortgages, Mr. Bell says.

At least one lender, Wells Fargo, is giving borrowers a break on origination and monthly servicing fees for adjustable-rate reverse mortgages, which allow homeowners to tap their home equity as they need it. Other lenders are cutting interest rates on such loans.

For example, Financial Freedom has lowered its rate by 0.75 percentage point, to just over 2%. The fee cuts could continue. Bank of America, for example, is studying “options to address some of the other costs associated with the loans,” says Steve Boland, the bank’s reverse-mortgage executive.

Consumers should consider more than closing costs in deciding whether a reverse mortgage works for them, and if so, which type. One drawback of a fixed-rate reverse mortgage is that you have to draw down the entire loan amount up front and pay interest on the entire amount across the life of the loan.

“It used to be that all of the costs were up front, and you could see them. Now, more of the costs are being included in the interest rate, more like a conventional mortgage,” says Barbara Stucki, the National Council on Aging’s vice president for home-equity initiatives. If you don’t need a large amount up front, you may be better off with an adjustable-rate loan. (Rates on fixed-rate loans are generally more than 5%; variable rates are hovering just above 2%.)

Before you start talking to lenders, consider consulting a HUD-certified reverse-mortgage counselor to learn more about the options and mechanics. Until the end of April, the National Council on Aging and other nonprofit groups are offering free counseling to homeowners regardless of their income.

You can find a directory of reverse-mortgage counselors at hud.gov. Click on “Talk to a Housing Counselor,” and then “Search online for a housing counseling agency near you.”

Write to Kelly Greene at kelly.greene@wsj.com

By SARAH MORGAN

It may not be a household word, but the battle over your broker’s “fiduciary” role has moved in a new direction—away, some say, from a lot of clients’ best interests.

A major push by consumer advocates to hold stockbrokers to the same client-comes-first standard of care required of investment advisers—the so-called fiduciary standard—seemed close to success only a year ago. That was after a study by the Securities and Exchange Commission had called for the new rules, despite brokers arguing that dispensing advice was only a part of their business model and they shouldn’t be held to the same standard as advisers in all situations.

The five SEC commissioners, however, never voted to change the rules. Now, the SEC is saying it won’t write any new rules until it studies how much they might cost the industry.

The shift largely is due to an unrelated case from last year, in which the U.S. Court of Appeals for the District of Columbia struck down an SEC rule on “proxy access” that would have allowed shareholder groups to put up their own proposals and board-of-directors candidates on company-distributed proxy ballots. The court said that the agency hadn’t done a thorough review of the rule’s potential costs.

That changed the climate for all future SEC rule making, says David Tittsworth, the executive director of the Investment Advisor Association. “The SEC doesn’t want to be proposing rules that will just be struck down,” he says.

Indeed, this month SEC Chairman Mary Schapiro wrote to Congress to confirm that three staff economists were studying the issue and drafting another request for data on the market for retail financial advice.

The SEC declined to comment further.

Though the fiduciary issue is hotly contested among some groups, surveys conducted on behalf of the SEC showed a majority of investors don’t understand what fiduciary means, nor do they realize brokers and investment advisers offer different levels of care.

Investment advisers and financial planners typically offer year-round planning services and portfolio management. Most charge a percentage of assets, usually 1% or so for up to $1 million, but some also charge a straight hourly rate or a fixed fee for whatever help they provide.

Brokers, meanwhile, provide not only advice, but act as agents for clients in securities transactions. They are generally paid commissions or other transaction-based fees.

Under current rules, brokers only need to ensure the products they sell their clients are “suitable,” and not necessarily the best possible or least expensive option. For example, a broker can sell a client a variable annuity that comes with a generous commission over a cheaper product, says Andrew Stoltmann, a Chicago-based securities lawyer who represents investors in arbitration and litigation. Advisers, on the other hand, are held to a fiduciary standard that requires them to recommend the less-pricey option, he says.

Investor advocates say new rules would be an important step forward. “It’s simply good policy, wise and fair. It will give retail customers greater protection,” says Harvey Goldschmid, a professor at Columbia University Law School and a former SEC commissioner.

For their part, brokers say they support the uniform fiduciary standard, but only if it is applied solely to personalized investment advice—and not when they are selling products or executing trades. “The SEC should not take a statute that applies to a different business model and apply that to the broker-dealer business,” says Ira Hammerman, the general counsel for the Securities Industry and Financial Markets Association, an industry trade group.

Write to Sarah Morgan at sarah.morgan@dowjones.com

Lewis S. Jacobus took over his parents’ ailing home-decor business two years ago intent on turning it around by rebranding it as a retailer of game-room products, such as pool tables and dart boards. But he had virtually no money to spend on advertising the shop’s new image.

So Mr. Jacobus began searching Facebook for nearby retailers to see if any would be willing to promote his store for free in exchange for him doing the same. The strategy quickly paid off.

Mr. Jacobus connected with the owner of a Christmas-tree business about 25 miles away. He says they agreed to place sample products and advertising materials in each other’s shops, including coupons specifically drawn up for the partnership. Over the next few weeks, he says both businesses generated sales as a direct result.

“Working together is a way to get your name out there,” says Mr. Jacobus, 27 years old, who became an entrepreneur to save his parents’ 30-year-old New Hampton, N.Y., business, now called Hudson Valley Game Rooms, after his father developed cancer.

One way to grow your small business on a limited marketing budget is to team up with other small businesses that target the same types of customers—but aren’t your direct competitors—and promote each other’s products or services.

The tactic typically requires a lot of networking and relationship-building, which can take time and may not always pan out. But entrepreneurs who have engaged in the practice say it can work and that it beats spending hundreds or thousands of dollars on traditional marketing efforts, like TV, newspaper or radio ads.

“This is the old barter system,” says Bruce I. Newman, a marketing professor at DePaul University in Chicago. “What’s the cost? A phone call.”

Mr. Newman recommends pursuing partnerships with companies that sell complementary goods or services and keeping tabs on your progress to see how effective it is. “Build a database once you start doing this so it can be tracked, measured and monitored over time,” he says.

Sheryl Connelly of Louisville, Ky., has literally gone door to door asking the owners of nearby businesses if they would be interested in doing cross-marketing with her start-up, Marketing Media Management, a provider of social-media services. She also has approached prospective partners through LinkedIn.com and at networking events.

But she says she doesn’t actually mention anything about a possible partnership upfront. Rather, she tries to get to know the entrepreneurs she targets to be sure they’re a good match.

“You’re gathering information,” says Ms. Connelly, who started her business after getting laid off from a sales job in 2009. “You need to be comfortable. It’s about your credibility.”

To date, the 40-year-old entrepreneur says she’s developed six partnerships that entail swapping customer referrals. For example, one partner is the owner of a computer-repair business and their agreement is such that if any of her clients mention having computer trouble, she recommends they call that partner.

Likewise, if any of the partner’s customers indicate that they use social media for marketing, the partner will recommend Ms. Connelly’s firm for support in that area.

“I went from one lead a week to about 10,” says Ms. Connelly. “And they’re solid leads. You’re riding on their credibility, which speaks volumes.”

Of course, not every attempt to strike up a partnership is likely to work out. Mary Tamargo, owner of Nocube, a digital-marketing start-up in Rochester, N.Y., says there were a handful of times when entrepreneurs she hoped to team up with either turned her down or didn’t follow through on their end.

But since becoming her own boss in late 2010, just prior to getting a pink slip from a health-care company, Ms. Tamargo, 36, says she has managed to drum up lasting partnerships with three consultants whose clients are mostly small pharmacies—also her target market.

Partnerships don’t necessarily need to involve exchanging the same kind of support. Entrepreneurs can scratch each other’s backs so to speak by agreeing to assist one another in ways that make the most sense for them.

Sara Marshall of Jersey City, N.J., says she learned of a creative product-display technique from an entrepreneur she met last spring at a farmer’s market. In return, she introduced her peer to a retail store that now carries that woman’s cookies and breads.

Ms. Marshall has been selling her own brand of salsa under the name Saucy Sara’s Salsa since getting laid off from a communications job in 2009. She says the partnership she has works in large part because she and her peer are in the same market and have similar goals.

“Everyone’s having a hard time because of the economy,” says Ms. Marshall, 46. “Everyone wants to succeed.”

Write to Sarah E. Needleman at sarah.needleman@wsj.com