ICI Outlines Three Steps to Deter Fraud
November 10, 2003
The Investment Company Institute's top officials presented ideas to the Senate and the Securities and Exchange Commission last week to fix the problems of late-trading, market timing and insider market timing. But they might soon need to add accurate NAV pricing to the list, as SEC Director of Enforcement Stephen Cutler testified before Congress last week that some funds are also guilty of purposely writing down their net asset values.
In a conference call, the leaders of the ICI recommended three specific measures that would stymie the questionable trading practices currently hindering the industry's reputation: 1) A 4 p.m. fund transaction deadline; 2) stiffer and earlier redemption fees; and 3) a strengthened code of ethics.
Regarding late-trading, the illegal practice of allowing funds to be bought and sold after 4 p.m., the ICI agreed with an SEC proposal that even if an investor is using an intermediary, the trade must be completed with the fund company itself before 4 p.m. That would put the deadline for the intermediary sometime before 4 p.m. Currently, it is permitted for an investor to make a trade with a broker, bank or other intermediary at the 4 p.m. deadline, making it common for the fund itself to complete transactions long after the bell.
"We could ensure simply by our own procedures in house that there are not any late trades being placed," said ICI Chairman Paul Haaga, an executive vice president with Capital Research and Management Co.
Matthew Fink, ICI president, admitted that the SEC has found that both intermediaries and fund companies have been guilty of some market timing. However, he said the problem has been much more prevalent among middlemen.
To deter market timing, the controversial quick trading in and out of funds, the ICI recommended funds charge a mandatory 2% redemption fee for at least five days after a purchase, with the proceeds going directly toward the fund. This would benefit long-term shareholders, who would be gaining the proceeds.
John J. Brennan, founder of the Vanguard Group, who serves on ICI's board of governors, said redemption fees have often fixed market-timing problems in the past, specifically with international funds.
"We think that a redemption fee and that week-long period will be a great deterrent to any kind of market timing," Brennan said.
To handle the problem of trading by fund managers and top personnel, the ICI said that by amending their codes of ethics, fund companies could more strictly monitor trades by those on the inside and prevent unfair advantages over other investors. That said, ICI executive committee member James S. Riepe countered that because Riepe investors feel more confident when fund managers and senior staff own the same funds they themselves do, an all-out barring of staff trades would not be feasible.
"We clearly don't want to ban ownership of the funds by senior staff and advisors," said Riepe. "What we do want to do is make sure that there's not any active trading of those funds. The optics of any kind of short-term trading might imply that the manager knew something that others outside did not know."
Last week, those ideas were brought to Capitol Hill, where testimony before Congress regarding New York Attorney General Eliot Spitzer's and the SEC's probes into the mutual fund industry began (see stories, page one).
Spitzer, in his opening statements before the Governmental Affairs Subcommittee chaired by Sen. Peter Fitzgerald (R-Ill.), acknowledged the cooperation between his office and the SEC, in an attempt to squelch reports that the two were having problems working together.
The timing of the hearings could not have been more relevant. Monday, Putnam CEO Lawrence Lasser was ousted on the heels of criticism about his disclosure of four fired fund managers' trading practices three years after their violations. Relating to that news was speculation about an $89 million "golden parachute" Lasser might receive on top of the $130 million package he's already gotten over the past five years. Whether Lasser receives that money hinges on whether Marsh & McLennan, the parent company of Putnam, fired him. As of now, reports are it did not.
Also Monday, Strong Funds CEO Richard Strong resigned from that position. And the regional director of the SEC's Boston office, Juan Marcelino, also announced last Monday that in light of the maelstrom whirling around the mutual fund industry, he is stepping down from his post, which he has held for the past 10 years.
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