Firm Charged Over Marketing Practices
November 27, 2000
The National Association of Securities Dealers Regulation last week issued a complaint against Dean Witter Reynolds of New York alleging the company used deceptive practices in the marketing of its proprietary bond funds known as Term Trusts.
The violations allegedly cost investors in the funds at least $65 million in losses.
Two executives of the firm, John B. Kemp and Lawrence J. Solari, Jr., were also charged with violations relating to the marketing of the funds - TCW/DW Term Trust 2000, TCW/DW Term Trust 2002, and TCW/DW Term Trust 2003.
After interest rates rose in 1994, the funds lost over 30 percent in net asset value - a drop of over $500 million in all - and were forced to reduce their dividends by nearly a third, according to NASD. Almost 30,000 customers sold at least some portion of their shares, suffering losses of almost $65 million.
NASD Regulation's complaint alleges that between 1992 and 1993, Dean Witter Reynolds, which later became part of Morgan Stanley Dean Witter & Co. of New York, misled thousands of investors about the risks of investing in the closed-end funds. It alleges that Dean Witter sold over $2 billion of TCW/DW Term Trusts to over 100,000 customers through the use of a firm-wide internal marketing campaign that "misrepresented the Trusts as safe, secure, low-risk investments."
The complaint also alleges that Dean Witter targeted conservative investors, many of whom were elderly persons with moderate, fixed incomes, for sales of the securities. Dean Witter Reynolds' marketing campaign did not include "critical information" about the significant risks and potential volatility of the Term Trusts, NASD alleged.
John B. Kemp, president of Dean Witter Distributors and director of sales for Dean Witter InterCapital, allegedly oversaw and approved roadshow presentations for the Term Trust that "misleadingly" portrayed the Trusts as safe, low-risk investments that should be sold to investors looking for certificate of deposit equivalents, according to NASD. Lawrence J. Solari Jr., former regional director for Dean Witter's northeast region, allegedly sent to numerous Dean Witter branch managers, memoranda that encouraged improper sales of the Term Trusts through misleading sales presentations, according to NASD.
Both Kemp and Solari were charged with violations of the NASD rule requiring that members adhere to high standards of commercial honor and just and equitable principles of trade.
The complaint also alleges that Dean Witter conducted an extensive internal marketing campaign to encourage its brokers to sell the Term Trusts. The campaign allegedly presented the Term Trusts to brokers as a simple and safe investment, suitable for virtually all investors, and as a safe, high-quality alternative to CDs.
Internal newsletters suggested misleading sales presentations that omitted "any discussion of the differences between the Term Trusts and CDs or of the additional risks associated with the Term Trusts," the complaint said.
The complaint also charges Dean Witter with alleged violations of NASD's antifraud, suitability, and supervisory rules, and with violations of its rule requiring that members adhere to high standards of commercial honor and just and equitable principles of trade.
Bret Gallaway, a spokesperson for Morgan Stanley Dean Witter & Co., said NASD's action against Dean Witter Reynolds and its two executives was "unfounded."
"Morgan Stanley Dean Witter is disappointed that the NASD, following an investigation that lagged for more than four years, has decided to pursue this action," he said. "This action is particularly surprising since it concerns investments sold seven to eight years ago and it follows a decision dismissing a purported class action concerning these trusts by the U.S. District Court."
In a 1996 decision, the U.S. Court for the Southern District of New York found that "the Trusts truthfully represented and adequately disclosed their investment strategies and the inherent risks," the company said.
The TCW/DW Term Trusts 2000, 2002, and 2003 have performed consistently with their stated investment objectives, according to the firm. The Term Trusts were offered at $10.00. They have paid monthly dividends throughout their respective terms and presently have net asset values of $10.06, $9.99, and $10.21, according to the statement.
Barry Goldsmith, head of enforcement at NASD Regulation, said the investigation "lagged" for more than four years because it was a very large and complicated case. The case involved sales of over $2 billion worth of these trusts to over 100,000 customers in all Dean Witter's offices, he said. Goldsmith also said the 1996 decision by the U.S. Court for the Southern District of New York dealt with the trusts' prospectus, not the way brokers sold the trusts, which is the focus of the current charges.