Dec. 12–Massachusetts regulators charged yesterday that Prudential Securities allegedly turned a blind eye as brokers in its Boston office executed illegal trades valued in the millions of dollars,concealing their abuses with bogus order numbers, false names, and crudely altered faxes.
The civil complaint filed by Secretary of State William F. Galvin draws a detailed diagram of how an alleged market-timing and late-trading operation worked.
Prudential’s mutual fund exchange desk in New York, for example, accepted 1,212 orders valued over $162 million over a 2 1/2-year period that Galvin alleged were illegal late trades. Three former brokers in Boston would fax the orders after the close of the markets, but Prudential would give the trades the funds’ price set at the 4 p.m. closing, Galvin said in his complaint.
Galvin and the Securities and Exchange Commission had charged the former brokers and two former office managers in Prudential’s Boston office with fraud for allegedly using deceptive tactics to hide repeated, market-timing trades in mutual funds they made on behalf of clients. The individuals were not charged in yesterday’s complaint, but the second Galvin complaint draws in the more serious accusation of late trading.
Prudential managers and senior executives knew about the abusive trades, which were executed on behalf of hedge funds, but looked the other way because of commissions the brokers were generating, the complaint alleges. The SEC is also probing Prudential’s role in the trading scheme.
A Prudential spokesman declined to comment on the allegations, saying the firm hadn’t yet been served with the complaint.
“We continue to cooperate fully with all regulatory inquiries,” said spokesman Robert DeFillippo. Besides the investigations by Galvin and the SEC, Prudential has received inquiries from New York Attorney General Eliot Spitzer and the National Association of Securities Dealers, he said.
Prudential Securities was part of financial services giant Prudential Financial Inc. of Newark. In July, Wachovia Corp. of North Carolina acquired a controlling interest in Prudential, and absorbed the Prudential Securities brokerage operation into its Wachovia Securities unit. None of the allegations involve Prudential’s Dryden Funds.
Wachovia spokesman Tony Mattera declined to comment.
According to the complaint, the violations surrounded three former Prudential brokers: Martin Druffner, Justin Ficken and Skifter Ajro, referred to in the complaint as the “Druffner Group.” The three brokers split the commissions they generated.
Market timing is rapid, short-term trading into and out of mutual funds to profit from frequent changes in their value. Most funds restrict this type of activity because it increases transactions costs for long-term investors, and can leave fund managers with unexpected pools of cash that must sit idle because it cannot instantly be reinvested.
But the Druffner Group found numerous ways to disguise the market-timing activities of its clients, and evade what the complaint calls “the market timing police.” The three placed orders with their broker identification numbers disguised with different branch codes, or with their names intentionally misspelled, Galvin said. In all, there were 62 different numbers issued to the group, the complaint claims.
One strategy cited in the complaint involved opening multiple accounts for individual hedge fund clients, and moving money from accounts suspected of market timing to clean accounts, a process called journaling.
The group also engaged in frequent late trades, in which clients made or approved trades after 4 p.m. — when the price of a fund could be impacted by events occurring after the close of the market — but still received that day’s pricing, the complaint charges.
Hedge fund clients placed orders for mutual fund trades prior to 4 p.m. and then confirmed or changed the trades after the 4 p.m. close.
Those late trades were disguised with time stamps from before 4 p.m. and faxed from the Boston office to New York to be processed with the same day’s price, the complaint alleges.
While the complaint accuses the brokers of late trading, they were not charged on that count by Galvin. Michael Collora, a lawyer for Druffner and Arjo, said “my clients adamantly deny” late trading.
Willis Riccio, attorney for former broker Ficken denied the accusation and said Galvin is “back-dooring a charge” against his client, “painting him with a brush of guilt when he was never charged with” late trading.
–By Jeffrey Krasner and Andrew Caffrey
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