Stephen Schurr

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Strong Funds Chairman Engaged in Market Timing, Spitzer Says

Stephen Schurr

We now know how high market timing allegedly went at Strong Capital Management.

New York Attorney General Eliot Spitzer expects to file charges against Richard Strong, chairman and founder of the closely held Menomonee Falls, Wis., fund firm, for allegedly engaging in abusive short-term trading of Strong funds over the past five years, according to officials in Spitzer's office. A spokeswoman said the charges would likely come sometime next week. Spitzer's office hasn't decided yet what specific charges would be levied, but criminal charges are under consideration.

The allegation is among the most stunning in the widening fund scandal since Spitzer first revealed on Sept. 3 that Strong Capital, Janus(JNS), Bank of America's(BAC) Nations Funds and Bank One(ONE) allowed hedge fund Canary Capital Partners to engage in abusive trading of their funds in exchange for assets that would raise the fund firm's fee collection. Richard Strong, whose net worth was estimated at $800 million on the Forbes 400 list, allegedly made about $600,000 in profits from his short-term trading.

Spitzer's office hasn't decided yet what charges Richard Strong -- and potentially another Strong executive -- will face. (Spitzer's office is weighing similar charges against an Arizona trading company called Security Trust for allegedly facilitating market timing in mutual fund shares.)

At issue in this case is "market timing" -- more specifically, rapid-fire trading of a fund's shares to take advantage of stale prices in the fund's share price, or net asset value. This type of abusive trading isn't illegal on its own; however, it may be illegal for a mutual fund firm to engage in or allow market timing of its funds if the firm claims to disallow such trading activity in its prospectus. Furthermore, because such abusive trading hurts long-term investors by skimming part of their profits and raises fund expenses, it clearly undermines the interest of investors that fund firms have a fiduciary duty to protect.

Richard Strong doesn't appear to have engaged in late trading, a clearly illegal practice that involves trading in funds after the 4 p.m. close.

Strong Capital, a fund firm with $43 billion in assets, said in a statement the firm is in the process of an internal review and declined to elaborate on the allegations against its 61-year-old founder.