Updated from 11:38 a.m. EST
State and federal securities regulators filed civil charges against Putnam Investments and two portfolio managers in the ever-expanding mutual fund trading scandal.
The charges were filed Tuesday in separate civil securities fraud actions brought by the
Securities and Exchange Commission
and Massachusetts Secretary of the Commonwealth William Galvin.
Putnam, a division of
Marsh & McLennan
, is the first mutual fund family to be charged in the trading scandal. The Boston-based fund family engaged in securities fraud by failing to disclose that two of its managers "engaged in excessive short-term trading of Putnam mutual funds" for their own benefit, according to the charges.
But Putnam probably won't be the last fund family to face charges.
The SEC has identified at least 40 mutual fund families that permitted outside investors to engage in market-timing, an arbitrage strategy that allows savvy traders to take advantage of the time differences between the closing of U.S. and foreign exchanges.
Most mutual funds say they prohibit market-timing because the rapid in-and-out trading can dilute the value of a fund's holdings and hurt other investors.
Meanwhile, New York Attorney General Eliot Spitzer is moving ahead with his investigation into late-trading, an illegal activity in which favored customers are allowed to buy mutual funds that were priced prior to the release of market-moving news. Spitzer's office already has gained two criminal convictions in that inquiry.
It was Spitzer's office that spurred other regulators, including the SEC and Galvin, to begin looking at the entire $7 trillion mutual fund industry for cases of illegal and unethical trading activity.
The two former Putnam fund managers charged by Galvin and the SEC are Justin Scott and Omid Kamshad. Both men were charged with securities fraud and engaging in market-timing in shares of their own company's funds.
The complaints filed by the SEC and Massachusetts regulators allege that at least four other Putnam employees engaged in market-timing. In all, the trading activity allegedly produced more than $1 million in gains for the six employees.
The inappropriate trading activity by Scott and Kamshad dates back to 1998, with the two men often making short-term trades worth hundreds of thousands of dollars. The regulators contend Putnam knew what Scott and Kamshad were doing as early as January 2000 and told the men to stop. But they allegedly didn't and Putnam did nothing about it.
In fact, it wasn't until this September, when regulators began looking into the trading activity at Putnam, that the mutual fund family began taking action against its wayward employees. It was just last week that Putnam issued a press release admitting that some of its employees had engaged in market-timing.
The irony is that while Putnam looked the other way at market-timing by its own employees, the company did take some steps to prohibit short-term trading by its investors.
Still, even those steps were not enough to stop a group of investors affiliated with the Boilermakers trade union from market-timing some fund shares over a three-year period.
Veras Investment Partners
, a Texas hedge fund, might have enquired with Putnam about the possibility of market-timing some its funds. One of the exhibits to the Massachusetts complaint is an email from a Putnam official to a person at "veras funds'' explaining Putnam's policy of deterring investors from engaging in market-timing.
This is not the first time that Veras, a 2-year-old statistical arbitrage hedge fund out of Sugar Land, Texas, has surfaced in the mutual fund trading scandal. Two weeks ago, a former
Fred Alger Management
executive pleaded guilty in a New York state court to trying to destroy emails documenting a potentially improper trading relationship between some Fred Alger funds and the Veras hedge fund. Spitzer's office, which secured the conviction, has served a subpoena on Veras.
Veras officials did not return a telephone call. The hedge fund's lawyer also was unavailable for comments. Massachusetts regulators also declined to comment.
Spitzer's office is looking into allegations that a hedge fund may have been permitted to make illegal "late trades" in shares of some of the mutual funds sold by Alger.
In bringing separate actions Tuesday, it appears there is little cooperation between the SEC and Massachusetts officials. By contrast, Spitzer's office and the SEC appear to have a more coordinated investigation. For instance, Spitzer's office and the SEC have issued joint press releases in pursuing mutual fund industry wrongdoing. No joint press release was issued in today's action against Putnam.
In fact, there may even be a degree of hostility between the SEC and Galvin's office.
The Wall Street Journal
on Tuesday featured an interview with a former Putnam employee who said he went to Galvin's office with allegations of wrongdoing at the fund family after being rebuffed by the SEC.