Spitzer's Allegations Light A Powder Keg In Wall Street

by Glen Shapiro, LawAndTax-News.com, New York

08 September 2003

The announcement last Wednesday by New York Attorney General Eliot Spitzer of a US$40m settlement in a case involving alleged improper share trading carried out by a hedge fund acting in consort with four major mutual fund companies has set the cat amongst the pigeons with a vengeance. The alleged abuses involved the improper trading of fund shares, sometimes after the market's close, making tens of millions of dollars in profits at the expense of individual investors.

On Friday, the SEC announced a wide-ranging probe among hedge funds to seek out equivalent behaviour in other cases, while Bank of America, one of the institutions named in Spitzer's announcement, jumped to defend itself, and Spitzer himself said that many other hedge funds were being sub-poenaed as part of ongoing investigations.

The SEC is sending a letter to about 100 institutions, responsible for 75% of all assets under management in the US, to inquire if they are involved in illegal trading schemes as described by Eliot Spitzer. SEC Chairman William H. Donaldson called the alleged abuses "reprehensible"; but after his officials initially moaned privately that Spitzer had not informed or involved the SEC during his investigation, the SEC said it would work together with the New York attorney general, and SEC enforcement chief Stephen Cutler praised Mr. Spitzer's aggressive action in pursuing the mutual-fund case: "God bless Eliot. He got the tip, and he pursued it," he said.

Bank of America is one of four fund managers named by Spitzer, who suggests that they allowed Canary Investment Management to buy and sell mutual-fund shares after the 4 pm Eastern time close of stock-market trading, at the closing 4 pm price. Bank of America hasn't been charged and says it is cooperating with Mr. Spitzer. Chairman and Chief Executive Kenneth Lewis said he would take swift action to get to the bottom of the accusations. He said that if the allegations are true and top bank executives were involved in tainting the bank's coast-to-coast brand, "Then they will have to go. Not only would I be furious about the actions, 134,000 of my teammates would be furious about the actions. We are working around the clock to make sure we get the facts," Mr. Lewis said.

Eliot Spitzer's office says it has subpoenaed a number of large hedge funds and mutual funds in a follow-up to the 'Canary' case, including Millennium Management LLC, Vanguard Group, the nation's second-largest fund company measured by assets and Invesco Funds Group, a unit of Amvescap PLC, another large fund group. Eliot Spitzer said additional cases alleging abuses in fund trading were nearly a certainty. Millennium, Vanguard and Invesco said they were cooperating in the probe.

According to Spitzer, Edward J. Stern, managing principal of Canary Investment Management LLC, agreed without admitting or denying wrongdoing that his company will pay a $10 million fine and $30 million in restitution. The settlement deals with civil charges that Mr. Stern violated New York state's business law, but Spitzer says that charges are '"almost certain" to be levelled against the four mutual-fund companies cited in but not joined to the civil action. They are Bank of America, Bank One, Janus Capital, and Strong Capital Management Inc.

According to the complaint against Canary, Mr. Stern, the 38 year-old son of Leonard Stern, a very wealthy New York real-estate investor, committed two trading offenses, one being frequent and undisclosed in-and-out "timing trades" at the mutual funds, and the other, more serious, by agreeing to engage in late trading, after the 4 pm close of stock-market trading, at funds managed by Bank of America, and via smaller firms including Security Trust Co. in Phoenix, Ariz.

A Stern family spokesman said Canary had decided to enter into a settlement to avoid protracted and complex litigation, and admitted no wrongdoing. Mr. Stern also voluntarily agreed not to trade in mutual funds or manage any public investment funds for 10 years.

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