Lipper Research Senior Analyst Don Cassidy on "Business for Breakfast" 1060 KRCN Tuesday - Second Anniversary of the Mutual Fund Trading Scandal
Tuesday, September 6, 2005
Q. Don, we've just reached the second anniversary of the Spitzer newsconference revealing the funds-trading scandal.A. Yes, it was September 3, 2003.
Q. So, where are we? ÊWhat has happened? ÊAre investors being made whole?
A. Well, there is both good and bad news. ÊThe good news is that theabusive trading has essentially stopped - it did so basically immediately,except with invariable insurance products.
Q. And the bad news?
A. The regulatory machinery has moved pretty slowly.
Q. But we have seen a number of high-level fund-company executives fired,prosecuted, fined, or banned from the business.
A. True, and that is the dramatic, photo-op part of it. But in terms ofpeople actually getting money put back into their accounts to make up forthe losses they incurred, we are almost still at square one.
Q. Why is that?
A. Well, there are consultants, auditors and attorneys that are involved indeciding how to calculate the damages. They need court approvals andsign-offs from the prosecutors, and that seems to move slowly.
Q. What about the regulators' creating new rules and so on, to prevent arepeat?
A. Here we've seen some positives, as well as some disappointments.
Q. Can you give us some details and examples?
A. The good has included requiring a Chief Compliance Officer at advisorfirms, who has broad powers to set up compliance procedures and make surethey work. ÊBut this is expensive to support, especially for small firms.
Q. Anything other positive points?
A. I think so, although some companies in the business disagree. ÊWe nowhave required an independent chairman of the fund's board, not related tothe management company. And we must have a majority of unaffiliateddirectors aswell. ÊAt Lipper, we have seen that directors and trustees are asking forinformation more now than they were earlier.
Q. Where is the reaction still slow?
A. Defining how new rules will be implemented. This is part of thedeliberative process out of the SEC, and they try to accommodate all views.For example, everyone wants hard enforcement of the so-calledhard-4PM-close.
Q. What does that mean?
A. Based on eastern time, no order will be accepted that is not in thehands of the fund company by 4PM. ÊThis sounds simple, but the mechanics ofthe infrastructure are complex, since lots of orders go through severalhands. This system pertains just to late trading (which was very rare) notto frequent trading.
Q. What about the frequent-trading area? ÊWhat progress has been made?
A. The progress has come from fund companies themselves just deciding toprevent it, rather than by new rules being created. ÊOne of the big issuesis how to ID the people that trade through "omnibus" accounts such as thefunds supermarkets at brokers, so would-be frequent players' orders arestopped. ÊA very complex computer system costs money, so we see argumentover the details.
Q. How about the public's understanding of what happened, and how they wereaffected?
A. That's a somewhat weak area.
Q. How so?
A. Well, clearly people who saw their own funds' brands named are awarethat something bad happened. They probably got apologetic letters withvague promises from the fund company. ÊBut most owners of the funds cannotexplain what happened, and no one knows exactly how much it cost their ownaccount. They have been assured the abuses are over, that the damage peraverage account was pretty small and that they will be repaid. Thesereassurances have pretty much taken the heat off.
Q. And do you think the authorities are still pursuing all the fundcompanies that were involved?
A. The staffs of the agencies involved are pretty small compared with thisnew "disease" that was not earlier even known. ÊThey are seemingly handlingjust one or two cases at a time. ÊI have a feeling that maybe after a fewsuccessful cases with multi-million-dollar settlements, and a few peoplesent to jail or fined or banned, they may see the job as done. I don't knowwhat cases, if any, Êthey may be working on that have not yet been named.
Q. It does look like Mr. Spitzer in New York has moved on to otherinterests.
A. I agree. And you could make the case that it is an SEC (federal) primaryresponsibility, and that while Spitzer did a service by exposing theproblem, it is not his office's job to get to the bottom of it.
Q. Sunday the Denver Post carried a column by Chuck Jaffe, saying that somefund companies have not been named, where the key ratios that profile thetrading behavior fall in the range indicating they probably were involved.He named some pretty big firms like Merrill Lynch, Morgan Stanley, J.P.Morgan, American Century, and so on.
A. At Lipper we have been saying for some time that we think maybe another15-20 firms may have been involved, but have not yet been named by theauthorities. ÊThis is based on publicly filed data on the early assessmentthat Steve Cutler at the SEC made in February 2004.
Q. Do you think some firms will get off free?
A. Some firms named early by authorities have suffered very large outflowsand damage to their reputations. It would seem a bit unfairly "lucky" ifthere are indeed other guilty parties that get to skate by. ÊJustice shouldbe equal and thorough. Investors should be able to know all the names ifthere are more - which we believe there probably are.
Q. Why is it important for the public to know all the names?
A. So investors can make investment choices based on complete information.Right now there may be some involved parties who are still seen asinnocent.
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Don Cassidy is a Senior Research Analyst at Lipper specializing in fund flows, exchange-traded funds, (ETFs), closed-end funds, equity fund performance, and author of Trading on Volume (McGraw-HIll).
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