Ethics rules tighten for mutual funds

SEC to make managers sign code of conduct on conflicts of interest

May 27, 2004|By BLOOMBERG NEWS

WASHINGTON - The Securities and Exchange Commission ordered mutual fund managers yesterday to follow new ethics rules and required funds to specify when investors are owed discounts for buying large blocks of shares.

The rules, passed unanimously, target trading and sales abuses uncovered last year as regulators learned that some funds had let favored investors make trades that harmed long-term shareholders.

Since December, the SEC and state regulators have imposed about $2.3 billion in fines and fee cuts against six companies, including Putnam Investments and Strong Capital Management Inc.

Fund managers and advisers "owe their clients more than mere honesty and good faith," said SEC Chairman William H. Donaldson. "Recent experience suggests that all too many advisers were delivering less."

The SEC meeting was its eighth on mutual funds since the scandal erupted. In the next few months, the agency will consider two proposals opposed by most fund companies. One would order funds to have independent chairmen, and the other would require investor orders to be at a mutual fund by the 4 p.m. market close.

Yesterday, the SEC's mutual fund investigation was extended to Wellington Management Co., a Boston money manager that oversees more than $415 billion. The company said the agency is investigating some of its trading practices.

The rules are aimed at protecting about 91 million U.S. investors who use mutual funds to save for retirement, new homes and other purchases.

The Investment Company Institute, the mutual fund industry's Washington lobbying group, endorsed the SEC's new rules.

"Shareholders will have yet another element of assurance that their interests are coming first," said John Collins, a spokesman for the group. "These are good moves."

The ethics rules, which are to take effect Jan. 7, require fund managers and investment advisers to sign a code of conduct barring conflicts of interest and requiring managers to report promptly any violations to the fund's chief compliance officer.

The code also forces fund managers to report internally any investments they make in their company's funds. The fund company would then be able to make the information available to SEC inspectors.

That provision comes after regulators found that some managers, including Strong Capital Management's founder Richard S. Strong, made improper trades in their own funds. Last week, the SEC and state regulators fined Strong $60 million for personally profiting from frequent, or market-timing, trades in his company's funds. Strong, who didn't admit or deny wrongdoing, was also banned from the money management industry.

Companies now must keep records on trading in individual stocks by their money managers, a requirement designed to ensure they aren't taking advantage of inside information about what the funds are buying and selling.

There haven't been rules governing fund managers' personal trades in their own mutual funds because, until last year's allegations of improper trading, regulators thought that such investments helped align the managers' interests with those of their clients, SEC officials said.

"This closes a gap in our current rules," said Commissioner Paul S. Atkins.

As part of the new rule for mutual fund discounts, also called breakpoints, the SEC ordered funds to disclose in their prospectuses when investors are entitled to the price break. In 2001 and 2002, according to a National Association of Securities Dealers estimate, brokers failed to pass along $86 million in discounts. That rule takes effect Sept. 1.

Fifteen companies, including Legg Mason Inc., American Express and UBS AG, agreed in February to pay $21.5 million to settle regulators' allegations that they failed to give customers the breakpoint discounts. The firms didn't admit or deny wrongdoing.

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