Bear Stearns' Market 'Timing Group' Draws Scrutiny

A small group of frontline employees in Bear Stearns'(BSC) stock-clearing operation has emerged as a focal point in the government's ongoing investigation of how clients of the Wall Street firm were able to engage in abusive mutual fund trading.

The group, informally dubbed the "timing desk" inside the brokerage, wasn't high-ranking executives, but operations specialists who processed mutual fund trades submitted to the firm's giant clearing operation. The group was occasionally targeted by mutual fund companies complaining about market-timing by Bear Stearns clients.

In August 2002, for instance, a Boston-based mutual fund company sent an email to the Bear Stearns group threatening to block future trades if Bear Stearns didn't take action against customers who were making abusive trades. A source described the email to TheStreet.com on condition that the fund company not be identified.

The scrutiny of the timing desk comes as federal prosecutors in New York and regulators at the Securities and Exchange Commission step up their investigation of Bear Stearns' clearing operation, which is the biggest on Wall Street. The Wall Street Journal last week reported that Bear Stearns dismissed at least three clearing employees -- two of them managing directors -- for failing to follow the firm's policies on mutual fund trading.

People familiar with the inquiry say prosecutors and regulators are trying to determine whether Bear Stearns may have aided and abetted the abusive trading by failing to stop it. Investigators also looking into allegations that Bear Stearns permitted brokerage customers and some hedge funds to engage in illegal late-trading.

Market-timing is the term for a shady strategy in which mutual fund shares are bought and sold frequently in order to profit from price differences in different markets. It's harmful for the vast majority of mutual fund investors because it can dilute the value of a fund by driving up trading and administrative costs.

Late trading is a more serious offense. It involves permitting a favored customer to buy shares of a mutual fund after their 4 p.m. closing price in order to take advantage of late-breaking market-moving news.

A Bear Stearns spokesman declined to comment on the investigation. The firm's attorney, Lewis Liman, a former federal prosecutor and a partner with Cleary Gottlieb Steen & Hamilton, could not be reached for comment.