| An eNews Update to our Quarterly Newsletter |
December 2003
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Addressing Mutual Fund Scandals The mutual fund trading scandal has gained momentum. The New York Attorney General Elliott Spitzer has initiated a probe into trading practices at several mutual fund families. The findings were troublesome. While the alleged misdeeds may have not had a materially large impact on fund shareholders', they have still unfairly benefited the perpetrators at the expense of long-term shareholders. The practice of "late trading" is explicitly illegal, while the practice of "market timing" is unethical and is against mutual funds' own rules. "Late trading" refers to the practice of buying a large amount of mutual shares after the 4PM EST window for trading closes. Normally, trades placed after the market close must receive the next business day's closing price. The rationale for this rule is obvious: to stop insiders from placing wagers after the result of "the game" is known. "Market timing" in the context of mutual fund trading, is similar to "late trading." Instead of placing orders after 4PM when the US market's results are known, market timers take advantage of the time zone differential between different foreign markets. Although, placed within the legal US time limits, the effect of buying or selling international oriented mutual funds after those markets have closed is in fact the same as placing the wager after the results are known. As the probe has widened, the issue became directly relevant to all of our clients. Long-time familiar and respectable names, such as Putnam Investments, Alliance Capital and Federated Investors have all come under scrutiny. According to our records, there were no SAM (Strategic Asset Management) accounts to date invested in any of the fund families mentioned above accused of improper trading. Avoiding every scandal cannot be guaranteed. However, the combination of, independent research, access to a greater range of investment choices and the ability to adjust portfolios when needed without incurring any commission cost has proven instrumental in designing shareholder friendly portfolios. Our mutual fund analysis goes way beyond a simplistic approach based exclusively on past performance. We put our experience to work for you when seeking to help you minimize potential mutual fund investing pitfalls. What to Do with Scandal-Tainted Funds We think the firms thus far implicated in the scandal have demonstrated a flagrant breach of their fiduciary responsibilities. Given the kind of behavior that allegedly went on at these firms, we believe they no longer clear the minimum threshold for corporate governance. We think the problems unveiled at these firms are serious enough that they no longer offer an attractive risk/reward proposition. The disruption caused by the investigations to these firms' ongoing operations and quality of investments services provided is of additional concern. The disruptions come in the form of but are not limited to: manager firings and departures, assets outflows and necessary re-organization of internal operations. As a result of the scandals, we are considering ways investors can become a positive force for change in the industry. In a market economy, voting with our feet is the most powerful force for change that exists. Your financial advisor stands ready to assist you in evaluating your brokerage account's exposure to any of the "scandal-tainted" funds. As a second step, your financial advisor can also assist you in determining the most appropriate course of action by considering all risk implications of current exposure, tax consequences and possible cost of any potential recommended changes. Please contact us if you would like to receive a prospectus for any of these funds. Mutual funds remain one of the best investment alternatives for most investors. Part of our mission is to navigate the waters of the mutual fund universe and recommend suitable investments for our clients. We would like to thank you again for the confidence you have entrusted in our group and will work hard to continue to earn it.
This article is for informational purposes
only and not intended as financial advice. Consult your financial
advisor to determine what is appropriate for your situation. If you have any comments, questions or suggestions concerning this
electronic newsletter, please email us at fgi@fragassogroup.com.
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