Gray Matter
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When the mutual fund scandals broke in September 2003, New York Attorney General Eliot Spitzer and other politicians described the misdeeds in black-and-white terms. According to the original story line, the villains were mainly mutual funds who lifted billions of dollars from the wallets of shareholders.
Now, two years into the legal actions, the matter is getting murkier. Legal documents from a recent mutual fund trading case against Canadian Imperial Bank of Commerce (CIBC) indicate that many mutual fund executives acted responsibly, working against the rapid trading known as market timing. (In its recent settlement, CIBC agreed to $125 million in penalties and disgorgements but didn't admit guilt.)
The official complaints from the offices of Spitzer and the SEC sometimes painted the mutual funds as victims of CIBC. “Many mutual funds honored their fiduciary obligations,” the attorney general's complaint notes. In other places, the document sounds downright sympathetic to the complex task funds face in stopping questionable trades.
“There are no clear definitions of ‘market timing’ in regulations or in legislation,” writes Peter Tufano, a professor at Harvard Business School, who has been hired by Putnam Investments to help assess how much shareholders lost from market-timing and late-trading activities. Spitzer and others have proposed a remedy to this: substantial regulations. The SEC, for instance, favors mandatory redemption fees. In some proposals, a trader who bought a fund and then sold it quickly would have to pay a 2 percent fee. Predictably, the industry howled in protest. The fees would be expensive to implement and might hit innocent shareholders, critics charged. In response, the SEC backed down, suggesting voluntary redemption fees.
There could be other easy solutions. Working to police itself, Putnam barred rapid trading by portfolio managers and clients. Portfolio managers must make all trades through Putnam, which apparently makes it easier to identify market-timing activities: according to SEC sources, Putnam's market-timing problem has essentially vanished. That suggests what may be the simplest solution. To stop market timing, the industry doesn't require more regulations; fund companies only need to monitor trading and stop speculators as soon as they appear.
