The only shame is to have none. -- Blaise Pascal
Almost anyone who works for a mutual fund firm will tell you that the industry is going through a collective dark night of the soul.
Ever since New York Attorney General Eliot Spitzer revealed the first batch of evidence of abusive trading of funds, most fund firms have turned self-reflective, examining their activity to determine if they were unwavering in their dedication to all fund investors.
However, among the firms that were knee-deep in problematic relationships with rapid-fire traders, one firm has been recalcitrant in the face of red flags, subpoenas and impending civil fraud charges:
. The family of growth-oriented and sector funds, a unit of the United Kingdom's
, has aggressively defended its market-timing arrangements with several hedge funds as "consistent at all times with the best interests of Fund shareholders."
Spitzer's office and the
Securities and Exchange Commission
filed civil charges against Invesco and Chief Executive Raymond Cunningham on Tuesday, alleging that Invesco granted several hedge funds the ability to market-time. Published reports put the total amount of assets involved in the alleged wrongdoing at roughly $1 billion.
reported last week that Canary Capital Partners was among the hedge funds allowed to market-time Invesco's funds; Tuesday's
New York Times
put the tally of market-timers at 66.
Spitzer and the SEC haven't yet laid all their cards on the table and Invesco hasn't had the full opportunity to tell its side of the story, but the picture emerging so far hasn't been a pretty one. On Oct. 30,
reported that five Invesco funds turned up near the top of a list of funds with red flags for excessively high trading levels.
Since "all frequent trading harms a fund," according to Fund Democracy founder Mercer Bullard, if nothing else, the rapid-fire trading within these funds helped hoist the funds' expenses to the detriment of investors. Meanwhile, officials within Invesco were arguing over the potential harm of market-timers five years ago -- according to
The Wall Street Journal
, former manager Jerry Paul remembers telling senior managers in 1998 that "market-timing is not good for long-term shareholders."
With so many other mutual fund firms working with regulators to settle the charges and put the scandal behind them, why is Invesco vowing to vigorously defend its market-timing relationships? The most likely answer is that Invesco believes it has been unfairly tainted and that the officials who allowed these relationships felt strongly that the market-timing relationships weren't a drag on the funds. Indeed, in Invesco's defense, the easier path for the firm might be to make a settlement with regulators even if it felt it did nothing wrong.
Besides, market-timing has been an open secret for years and until recently the SEC hasn't taken a firm stance on the practice. Perhaps Invesco and other firms felt they were remaining above board if they let hedge funds market-time. Market-timing isn't illegal, after all. And while the market-timing arrangements break from the firm's long-standing policy to allow only four exchanges in and out of its funds a year, Invesco now acknowledges that "exceptions were made" and perhaps it can defend them on the basis that it believed the beefed-up assets benefited the funds in question. However, the SEC and Spitzer say in their complaint that Invesco knew the market-timing deals "would be detrimental to long-term shareholders in the mutual funds." Also, if they were benign arrangements, why were they not disclosed to investors and Invesco's independent fund board directors?
Invesco declined to comment for this piece. However, we will surely hear more of its defense in the coming weeks. The situation could take one of many different courses over the next few weeks and months. Invesco may decide to settle the charges. The case may go to court and become a protracted battle. The name Invesco may be merged out of existence -- swallowed up by sibling fund family AIM or perhaps parent Amvescap. I'm not a lawyer so I'll leave the finer points of securities law to the experts.
However, I am a personal finance columnist and have a responsibility to
readers to call it as I see it when it comes to mutual funds. As I see it, the unfolding scandal involving Invesco and its relationships with market-timers is one more reason for Invesco fund investors to sell the funds.
Integrity is an elusive term -- one not defined by a court of law. When it comes to mutual funds, my definition of integrity encompasses the notion that a firm goes out of its way to safeguard the best interests of all its investors, even against the appearance of impropriety. It also includes the notion that a firm places the interests of existing investors above the need to gather new assets -- and places the interests of small investors on the same plane as the interests of high rollers. In my opinion, Invesco's behavior doesn't measure up.
Further, Invesco's roster offers few worthy funds -- notably the stellar Invesco Leisure fund, which is closed to new investors. Many Invesco offerings feature above-average fees and spotty performance at best.
Invesco may have some justifiable explanation to defend its market-timing arrangements. However, many other fund firms see market-timing as a problem, and go to great lengths to curtail it, while also eschewing any special arrangement that isn't readily available to every single investor in the fund. Those firms --
Dodge & Cox
, to name two -- also have managed to notch more consistent returns and lower costs.
The battle between Invesco and regulators is just gearing up, and it may take months before any adjudication is reached. In recent weeks,
has mined semi-obscure data in an effort to determine if anything untoward occurred within Invesco funds. All of that may end up a matter for the courts to decide. For mutual fund investors, however, most of the evidence they need to reach their own conclusions about whether Invesco deserves a place in your portfolio is already in plain sight.