SEC: One Quarter of All Mutual Funds Allowed Late Trading

November 3, 2003 (PLANSPONSOR.com) - The Securities and Exchange Commission (SEC) has put a number on the number of fund brokers that allowed late-trading into and out of mutual funds - as much as 25%.

The one-quarter of fund brokers that admitted to letting customers make these type of trades is in addition to the half of the mutual funds surveyed that agreed to let some shareholders engage in questionable “market timing,” the much maligned practice of quickly buying and selling funds to profit from price discrepancies, the SEC’s director of enforcement Stephen Cutler is expected to tell a Senate subcommittee Monday.   In addition, Cutler is expected to disclose that nearly one-third of the mutual funds acknowledged providing what he called “questionable” disclosures about their investments to outside parties, giving them an opportunity to make more informed investment decisions than average shareholders, according to a Chicago Tribune report.

Market-timing concerns are even more alarming as the SEC’s investigation found that many broker-dealers are aware of market-timing by their customers.   Additionally, some went so far as to advertise market-timing services to attract big clients, Cutler’s testimony says.

Cutler’s prepared testimony expected to be delivered today says the recent allegations of mutual fund abuses (See  Market Timing Leads to “Late” Departure of Putnam Fund Managers ) prompted the SEC to send “detailed information requests” to 88 of the country’s largest funds – together responsible for management of approximately 90% of all fund assets, and to 34 large broker-dealers, which sell the funds. The responses that the agency received “have warranted aggressive follow-up,” Cutler said.

The Senate hearing will bring together officials from the SEC and New York Attorney General Eliot Spitzer, who two months ago sparked the mutual fund inquires and has been sharply critical of the SEC for not more aggressively fulfilling its watchdog role (See   Spitzer Fund Abuse Probe Pumps Out More Subpoenas).

New Rules

New rules governing the mutual fund industry are likely to result from the investigations. Last week the Investment Company Institute (ICI), the fund industry’s leading trade group, announced the submission of a three-pronged recommendation to the US Securities and Exchange Commission (SEC) (See Mutual Fund Proposal No “Treat” for Retirement Plans ).  Even though acknowledging the recommendations would send shockwaves affecting “millions of fund shareholders, thousands of intermediaries and hundreds of fund companies,” ICI nonetheless called for industry reforms that, if enacted as outlined by the fund industry trade group, are certain to put retirement plan investors at a significant disadvantage.  The proposed rules are:

  • implementing a firm 4 PM Eastern Time zone deadline for all mutual fund trades to be reported to fund companies
  • requiring all funds except money markets to impose a 2%-redemption fee on the sale of shares made within five days of purchase
  • tightening codes of ethics at all fund companies to include oversight of all trading activity by employees in funds offered by the company.

However, not everyone is excited about the thought of these possible regulations.   In particular, industry groups representing participants and recordkeepers nervous about the impact on retirement plan participants.  “We have stressed the adverse implications of a proposed 4:00 PM deadline for placement and processing of orders, making it clear that imposing such a deadline would not only be unworkable, but also would have a negative impact on participant investment accounts in the nearly 400,000 US 401(k) plans,” Bob Wuelfing, president of the Society of Professional Administrators and Recordkeepers (SPARK) Institute, told PLANSPONSOR.com , after his group met with the Securities and Exchange Commission (SEC) earlier this week to discuss the implications of such potential regulations. 

Echoing these sentiments was President of the Profit Sharing/401(k) Council of America (PSCA) David Wray.  “Whenever there is an abuse, there is a reaction, and often that reaction is to overact rather than come up with a solution that fits the problem,” Wray toldPLANSPONSOR.com (See  K Plan Participant, Recordkeeping Groups Fret Over ICI Proposals ).

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