BOSTON – State and federal regulators accused Putnam Investments and two of its former investment officers of fraud Tuesday, the first formal allegations of wrongdoing by a mutual fund company inwhat is rapidly becoming a major scandal for a once pristine industry.
The filings by the Securities and Exchange Commission and the Massachusetts Securities Division allege that Boston-based Putnam improperly allowed six employees, including four fund managers, to make market-timing trades using funds they oversaw and information not available to the public.
The civil actions against Putnam mark the first time a fund company has been directly accused of breaking the law, although New York authorities have accused three other individuals and a hedge fund with fund-related wrongdoing.
Several dozen fund companies have been subpoenaed in the investigation that has become a black mark on the $7 trillion mutual fund industry, which had prided itself on steering clear of the corporate scandals of recent years. On Tuesday, authorities indicated more fallout is ahead.
“This should send a clear message to everyone in the fund business they should examine their books because we will be examining them,” Massachusetts Secretary of State William Galvin said.
The complaints filed Tuesday named two of the managers: Omid Kamshad and Justin Scott, identified as managing directors and chief investment officers of Putnam’s International Core Equity Group and International Equities Group, respectively. Authorities said further action might still be taken against the four other Putnam employees alleged to have participated in the trading.
The SEC cited Putnam for failing to deter short-term trading and for fraud in connection with the sale of the funds. Putnam is also accused of defrauding customers by allowing members of a New York union retirement plan to engage in market-timing of certain funds even though those funds prohibited the practice.
Putnam, which has denied wrongdoing and says it has taken steps to avoid future problems, had no immediate comment. There was no answer at Scott’s residence, but Kamshad’s lawyer said his client is being unfairly targeted.
“These actions were filed precipitously,” said John Gilmore, an attorney for Kamshad. “We will defend against the claims asserted in these actions vigorously. The trades at issue did not violate any rule, regulation or statute.”
Market-timing is not in itself illegal, but the process is discouraged by many funds because it hurts long-term shareholders. Market timers jump in and out of mutual funds, trying to take advantage of late information that may affect the price of a fund before that fund’s daily price can be set.
Indirectly, profits won by market timers skim money from others who own shares.
The Massachusetts complaint claims Putnam ordered Kamshad and Scott to stop market-timing in 2000 but did not punish them or require them to return the profits from their transactions.
The SEC said Kamshad cleared $79,000 from one trade alone, selling shares in one fund he oversaw four days after buying them. He allegedly made at least 20 “short-term round trip” trades after a warning.
“They were putting their interests ahead of the other mutual funds’ investors’ interests,” Linda Thomsen, the SEC’s deputy director of enforcement, said in a telephone interview with The Associated Press.
Prior to Tuesday’s actions, most of the fund scandal had focused on individuals. Since September, a hedge fund trader and a fund executive have pleaded guilty in the scandal, while a hedge fund has paid $40 million to settle claims it engaged in illegal trades.
Russ Kinnel, director of fund analysis at Morningstar, said Tuesday’s revelations were among the most troubling because they involve fund managers.
The practices amount to “only basis points of damage” to individual investors, he said, but “violates a really important principle, that the fund company is supposed to be working for the investors, and (instead managers are) actively making decisions they know will cost the fund.”
Galvin said his office would seek customer reimbursements, the forfeiture of fund managers’ profits and better safeguards.
The Massachusetts complaint also alleged Putnam bent its own rules to tolerate rapid trading by as many as 28 participants in a retirement plan for members of the Boilermakers Union Local No. 5 in New York.
The group apparently traded more than $500 million in fund shares and made several million dollars in profits, including more than $1 million for one trader alone.
One Putnam employee told investigators the time between 3 p.m. and 4 p.m. was called “boilermaker hour” at Putnam’s Norwood office due to the group’s aggressive trading.
