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Scandal closes mutual fund security trust { November 26 2003 } Original Source Link: (May no longer be active)
http://www.nytimes.com/2003/11/26/business/26fund.htmlhttp://www.nytimes.com/2003/11/26/business/26fund.html
November 26, 2003
Ex-Executives Face Fraud Charges as U.S. Closes Fund Company
By RIVA D. ATLAS and DIANA B. HENRIQUES
The mutual fund scandal claimed its first corporate casualty yesterday when federal banking regulators ordered the shutdown of the Security Trust Company, an important intermediary in the processing of mutual fund trades by pension plans.
Eliot Spitzer, the New York attorney general, had threatened to bring criminal charges against the company but changed his mind after regulators said an orderly closing of the firm was preferable to avoid any disruption to the customers of the retirement plans, Mr. Spitzer said.
The regulators in the Office of the Comptroller of the Currency coordinated their decision to close Security Trust with Mr. Spitzer's office and the Securities and Exchange Commission, which both announced their own actions yesterday. The S.E.C. accused the company and three former executives of facilitating hundreds of illegal trades by hedge funds managed by Edward J. Stern, who reached a settlement with Mr. Spitzer in early September.
The former executives - Grant D. Seeger, the founder and former chief executive of Security Trust; William A. Kenyon, the former president; and Nicole McDermott, who supervised Security Trust's trading operations and its relationship with clients - also face charges of grand larceny and fraud brought yesterday by Mr. Spitzer.
The move by the comptroller's office, made in cooperation with the Labor Department, opened a new front into the investigation of the $7 trillion mutual fund industry and the middlemen who connect it with 95 million fund shareholders.
Two other companies acknowledged yesterday that they were subjects of regulatory investigations. Amvescap, an investment company based in London, said that its Invesco Funds division had been notified by the S.E.C. and Mr. Spitzer that it could face actions related to trading in and out of its funds. The asset management division of Citigroup also acknowledged an investigation by regulators of its funds-transfer business.
Also, a spokeswoman for UBS confirmed reports that it had dismissed two brokers and disciplined nine others after an internal investigation found that they had helped clients trade rapidly in and out of mutual funds.
In an interview yesterday, Mr. Spitzer said he had decided that criminal charges against Security Trust, based in Phoenix, were not necessary once the comptroller's office decided to dissolve the company.
As recently as Oct. 29, the comptroller's office directed the trust company to develop strategic plans for resolving its difficulties over the next three years. The comptroller's office also ordered Security Trust's owner, a partnership known as Capital Management Investors Holdings, to provide additional capital necessary to guarantee the company's financial stability.
"Taking into consideration the potential for both civil and criminal prosecution and the condition of the bank, this was the best thing to do," said Daniel P. Stipano, deputy chief counsel for the comptroller's office.
A spokesman for the agency said, "It was always contemplated that it might be necessary to take this step."
While not a household name to most investors, Security Trust plays an important role in the world of mutual fund intermediaries that connect the fund industry to its ultimate customers, enabling even small 401(k) plans to offer a range of investment options from several fund managers. They gather fund orders from individuals and retirement plan participants, matching the buy and sell orders, sorting them into large accounts and then submitting them to the appropriate fund family at the end of each business day.
Security Trust employees, under the direction of Mr. Seeger and Ms. McDermott, repeatedly misled mutual funds into believing that hedge funds trading through its system "were a retirement plan account," the S.E.C. said.
The company arranged for a group of hedge funds managed by Mr. Stern to trade in and out of close to 400 mutual funds after the market closed but at an earlier price, the S.E.C. said in its complaint. This practice, known as late-day trading, is illegal, regulators have said. Many of Mr. Stern's trades were made as late as 9 p.m., the commission said.
Mr. Stern's funds earned $85 million from these trades, the S.E.C. said, and paid Security Trust more than $5.8 million.
Just a few months after Mr. Stern's funds began to funnel their illegal trades through Security Trust, an employee of the company asked Mr. Seeger, along with Mr. Kenyon and Ms. McDermott, whether the "S.E.C. wouldn't have a problem with our trading practices," the commission said. Yet the executives did nothing to stop the trading.
Executives at Security Trust also arranged for Mr. Stern's funds, along with hedge funds managed by Samaritan Asset Management, to trade in and out of mutual funds for short-term profit, a practice known as market timing. Security Trust and its top executives disguised the trades in a variety of ways to conceal the trading from the mutual funds. These methods included setting up multiple accounts, setting up accounts opened in Security Trust's name and setting up subaccounts for the hedge funds within accounts set up for pension funds.
Executives at Samaritan did not return calls; a spokesman for Mr. Stern declined to comment.
The three former Security Trust executives charged yesterday pleaded not guilty in New York criminal court and posted bail. Frederick P. Hafetz, a lawyer for Mr. Seeger, said that his client "has done nothing illegal," adding, "We are fully confident of his vindication." A lawyer for Ms. McDermott did not return calls and messages left at her home in Arizona were not returned.
A lawyer for Mr. Kenyon, Gerald L. Shargel, said his client "did not violate the law" and took issue with his client's arraignment yesterday. "This is a publicity stunt, and it is unfortunate that it is being played out on a criminal stage," he said.
A spokeswoman for Mr. Spitzer said that there was nothing unusual in the manner in which the charges were filed against Mr. Kenyon and his colleagues. "Long ago, Mr. Kenyon's attorney asked for an opportunity to surrender his client and we granted that request instead of arresting him," she said.
Mr. Seeger resigned from Security Trust on Oct. 5. Three weeks later, Mr. Kenyon and Ms. McDermott also resigned, although the company portrayed their departure as part of an across-the-board staff reduction.
Thomas E. Plumb, who stepped in to run Security Trust after Mr. Seeger stepped down, said in a statement yesterday that its customers "should take comfort in the fact we have stabilized S.T.C. so we can transfer their business to another entity that will be able to sustain the services they require."
Companies likely to be interested include giants like Charles Schwab and units of some mutual fund companies, and other important players in the market like SunGard and Reliance Trust, industry executives said.
Citigroup said yesterday that state and federal investigators were examining a $16 million undisclosed payment made to the bank by a company that handled the buying and selling of shares held by the bank's huge array of mutual funds.
In an internal memo, the chairman and chief executive of Citigroup Asset Management, Thomas W. Jones, said that from 1997 to 1999 the bank entered into an agreement with the company, which a bank spokesman described as a "transfer agent," that eliminated a series of "benefits" collected by Citigroup from the company in favor of "arrangements that included a one-time payment" of $16 million. Neither the agreement, nor the payment, were disclosed to the boards of various Citigroup funds.
The agreement is under investigation by the S.E.C., Mr. Spitzer's office and the United States attorney , the company said. Mr. Jones said in the memo that Citigroup would repay the money, plus interest, to the funds.
Copyright 2003 The New York Times Company
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