Sep. 9–A Brooklyn congregation’s class action lawsuit against Strong Capital Management Inc. is likely the first of many legal actions the Menomonee Falls investment company will face in the wake ofallegations made last week by New York Attorney General Eliot Spitzer.
The lawsuit was filed last week in Waukesha County Circuit Court one a day after Spitzer alleged Strong and three other mutual fund companies allowed a New Jersey hedge fund to engage in improper trading practices with their funds. It was filed by Congregation Ohel Torah.
“There will undoubtedly be more — it’s just matter of time before the class action vultures come out of the woodwork,” said Andrew Stoltmann, a lawyer at the Chicago law firm of Maddox Hargett & Caruso, which specializes in securities arbitration cases and is not planning to file any class actions related to Spitzer’s complaint.
A spokesman for Strong did not return a reporter’s phone call Monday afternoon.
Two of the four fund companies named in Spitzer’s complaint against the hedge fund, Canary Capital Partners LLC, have said they intend to reimburse shareholders who lost money as a result of Canary’s trading. The two firms, Bank of America Corp. and Janus Capital Group, also said they would return to shareholders in the affected funds any fees generated in exchange for giving Canary money-making opportunities that weren’t available to other investors.
Bank of America said it would conduct an independent review to determine how much Canary’s trading cost its Nations Funds shareholders. Janus estimated as much as $750 million in assets may have been invested by market timers in its funds in 2002 and 2003.
Spitzer’s office and the U.S. Securities and Exchange Commission and other regulators are investigating the matter and have subpoenaed a number of companies in the investment industry not named in Spitzer’s complaint.
Also Monday, the Justice Department’s U.S. attorney in Manhattan, James Comey, has notified other regulators he plans to join in Spitzer’s investigation, according to a report Monday in the Wall Street Journal. Comey’s involvement means the hedge funds and mutual funds fingered by Spitzer could face the threat of federal criminal prosecution.
The Ohel Torah lawsuit alleges Strong allowed Canary to engage in late trading and market timing with five of Strong’s mutual funds. Stoltmann said it was likely that allegations in the suit were copied from Spitzer’s case against Canary. However, Spitzer did not accuse Strong of late trading.
Late trading, which is illegal, creates an opportunity to use after-market information because it involves buying mutual fund shares at the closing price after the market has shut down. Market timing involves short-term, “in-and-out” trading of mutual fund shares, which hurts the longer-term shareholders for whom mutual funds are designed. It isn’t illegal but is frowned upon in the industry.
Both suits allege Strong allowed Canary’s practices in exchange for Canary’s promise to keep “substantial additional assets” in Strong hedge funds.
If Strong did allow the timing, it violated statements in Strong’s fund prospectus that said the firm actively sought to deter timers, they said.
Stoltmann said it will probably make sense for most investors to participate in a class action suit rather than file their own, particularly in cases where the average loss isn’t likely to top $1,000.
“The good news is the class actions will be nice and inexpensive to get into,” Stoltmann said. “The bad news is a lot of times you’re talking about recoveries of three to 10 cents on the dollar.”
Maureen Busby Oster said investors shouldn’t feel pressured to rush into class action suits, since anyone who invested in the affected funds during the class period will be contacted about joining the class — if the suits proceed.
“To me, the most effective way to deal with this isn’t going to be a payment to A and B — I’m not even sure they can identify who A and B are,” said Oster, president and chief investment officer of MBO Cleary in Milwaukee.
“It’s way too soon to tell.”
Bloomberg News contributed to this report.
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