This just in: buy side no angels either

Why were they so conspicuously silent when analysts were blatantly pumping up the shares of marginal tech companies in the late 1990s?…In other words, a third of the industry was knowingly jeopardizing the returns of its long-term customers, in direct contravention of the law, for the sake of earning fat fees from big clients.

National Post
November 4, 2003

This just in: buy side no angels either
Smug no more: Fund managers squandered chance to effect reform
Steve Maich

When Eliot Spitzer first stepped out of obscurity two years ago and declared war on Wall Street's long list of abuses, the mutual fund industry stood by with smug satisfaction.

Each time the New York Attorney General produced another damning e-mail from the bowels of one of Wall Street's venerable brokerages, a queue of outraged mutual fund managers formed.

Henry Blodget, Tsk tsk tsk.

Shame on Frank Quattrone.

Jack Grubman? Throw away the key!

Whether the issue was IPO spinning, tainted stock research, outrageous executive compensation, stock options or any one of dozens of other calls for market reform, the fund industry belched forth a never-ending supply of Angry Professional Investors.

No regulator was safe from their scorn. The SEC, they said, had failed in its duty to protect small investors from rogues, liars, and greedy executives.

And yet, we were left to wonder why mutual funds so rarely put their money where their mouths were.

The Mises Institute, a U.S.-based think tank, estimated last year that 75 fund managers control close to 44% of the U.S. capital markets, but the vast majority of those managers fail to vote their proxies every year.

Why did mutual fund companies fail to use their heft as major investors to force the kind of change they were publicly advocating? Why were they so conspicuously silent when analysts were blatantly pumping up the shares of marginal tech companies in the late 1990s?

Maybe now we know why.

If nothing else, Mr. Spitzer's probe of several major U.S. mutual fund companies has shattered the fund industry's sanctimonious facade.

When Mr. Spitzer first detailed cases of late trading and market timing at a handful of large fund companies in September, industry advocates maintained that the cases were isolated. But the Securities and Exchange Commission put the lie to that claim yesterday.

Stephen Cutler, director of the SEC's enforcement division, told a stunned U.S. senate committee that the regulator has uncovered a shocking pattern of systemic abuse in the fund industry.

The SEC has contacted 34 major fund companies and found that eight companies admitted that they had found cases in which clients were allowed to trade after the 4 p.m. deadline.

In one instance, customers placed trades as late as 5:30 p.m., and received that day's 4 p.m. closing price, in violation of securities laws.

About 30% of the 34 firms surveyed said they have allowed some customers to take advantage of stale pricing for underlying securities in mutual funds at the expense of long-term investors.

Roughly the same number, 30%, selectively disclosed information about portfolio holdings to certain customers, leaving the door open for short-term trading.

In other words, a third of the industry was knowingly jeopardizing the returns of its long-term customers, in direct contravention of the law, for the sake of earning fat fees from big clients.

Lawrence Lasser, the 60-year-old chief executive of Putnam Investments, stepped down yesterday, four days after the SEC brought charges against his firm.

The SEC alleged that two former money managers were making illegal trades in the company's own funds.

In his farewell letter to Putnam clients yesterday, Mr. Lasser made a final attempt to distance himself from the abuses that occurred on his watch.

Taking responsibility for unfair trading in Putnam funds is "painful", he said, because "the issues involved contradict everything I have learned from Putnam and contributed to Putnam over the last 34 years."

But if Putnam taught Mr. Lasser about fairness and respect for clients, the company's lesson for investors is very different.

Outsiders have learned that there is no ethical divide between Wall Street's "sell side" of brokerages and underwriters, and the "buy side" of pension managers and mutual funds.

There are some fund managers that are serious about acting as advocates for their clients. The firms that have formed the Canadian Coalition for Good Governance, come to mind.

But the proof of their commitment to reform is in their actions and their proxy votes, not in their speeches.

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