Schwab Swabs Employees For Deleting E-Mails Related to Probe

November 17, 2003 ( - Charles Schwab Corp has fired two employees for deleting e-mail as the brokerage house conducted an investigation into late-trading and market-timing activities among its mutual funds.

The two “junior employees” were let go for what Schwab outlined as a violation of the company’s ethics policy related to the erased e-mails.   Even though the messages were erased “for reasons [Schwab] does not fully understand,” the deleted emails were later found in back-up files for use by New York regulators, the company said an  internal e-mail to Schwab’s 16,000 employees from Chief Executive David Pottruck.

Also included in the e-mail was evidence unearthed by the San Francisco-based financial services company of 18 “problematic” examples of possible “late trading” of mutual funds in violation of industry regulations.   This after a subpoena from the New York State Attorney General’s office prompted the company to look into possible market-timing and illegal late-trading activities.

Schwab did not release further details of the 18 examples of late trading –the illegal practice of allowing mutual fund buy/sell orders to be placed after the 4 p.m. market close -but said, “that number will change as our research continues.”   Also disclosed in the Pottruck e-mail was information about market timing arrangements – the practice of rapidly trading in and out of mutual funds to take advantage of inefficiencies in the market – with five institutional clients of Schwab’s Excelsior Funds.   However, the firm said those relationships had terminated prior to the probe.  

Other Arrangements

Schwab’s disclosure comes on the heels of a similar discovery at Janus Capital Groups Inc. last week (See Janus Unearths Market Timing Arrangements ).   Janus’ revelation was made in a Securities and Exchange Commission (SEC) filing after the company conducted an internal review, which said the company found “significant, frequent” trading appeared to have occurred in four of the 12 market timing arrangements discovered between the firm and its institutional clients.

Prior to the Janus disclosure, similar market timing relationships were alleged at Wilshire.   Begun by Wilshire roughly a decade ago, the alleged quick turnover of mutual funds was part of a hedging strategy, in which Wilshire would short sell index futures that were slightly overvalued and simultaneously buy a basket of at least 10 mutual funds. When the value of the index futures dropped, Wilshire would cover its position (See  SEC Examining Wilshire Mutual Fund Trades ).

Details of the arrangements were unveiled in the October MONEY report “The Great Fund Rip-Off,” however Wilshire maintainsit “never asked for or expected any preferential treatment from any mutual fund while pursuing any investment strategy” in the statement.  At most, the strategy returned 30% in its best year and was discontinued on behalf of its clients by the end of the first quarter of 2002. Wilshire stopped using the strategy for its own accounts earlier this year, the company said (See MONEY: Wilshire Conducted Rapid-Fire Mutual Fund Trading Strategy ).