The growing mutual fund scandal hit Prudential Securities Inc. Tuesday as five former brokers and two former Boston branch managers were accused by regulators of improper trading.
The regulators painted a disturbing portrait of an operation in which brokers dodged rules barring market-timing by concealing their identities with intentionally misspelled names and dummy identification numbers _ then racked up millions of dollars in commissions and profits for hedge fund clients.
Meanwhile, Stephen Cutler, head of the Securities and Exchange Commission's enforcement division, told a House Financial Services subcommittee that the government is conducting a broad sweep of the mutual fund industry and more charges are likely in the growing scandal in the $7-trillion business.
Stephen Cutler said the SEC plans to notify more firms this week that investigators intend to file civil charges. He did not name any of the companies, nor did he say how many would receive the legal warnings. But he added that the SEC is seeking information from more than 100 firms.
Market-timing trades _ short-term, in-and-out buying and selling _ are not illegal, but the civil complaints by the Securities and Exchange Commission and Massachusetts Securities Division say that the techniques used to evade mutual fund companies trying to shut down the brokers amounted to civil fraud.
The complaints also suggested that some unidentified mutual fund company employees may have undermined their own firms' prohibitions on market timing by tipping off the brokers on how to avoid detection by the fund companies.
Prudential, now part of Wachovia Corp. of Charlotte, N.C., was not named in the complaints, though it is expected to be added as a defendant later and was deeply implicated in the allegations outlined Tuesday. Authorities claimed Prudential received as many as 30,000 warning letters from at least 68 mutual fund companies trying to halt such trading in their funds but did not take appropriate action.
The complaints said senior Prudential management essentially approved of the market-timing practices as a business venture, though Prudential later prohibited market timing in its own family of mutual funds and, in January, advised its brokers to abide by the market timing policies of mutual funds in which it invested.
The SEC complaint names former brokers Martin J. Druffner, Justin F. Ficken, Skifter Ajro, John S. Peffer and Marc J. Bilotti and former branch manager Robert Shannon. The Massachusetts complaint names Druffner, Ficken, Ajro, Shannon and Michael Vanin, also a former branch manager.
"It strikes me as a pretty heavy-handed attempt by the regulators to hold employees accountable for a strategy that was approved by the highest levels of the company," said Gary Crossen, an attorney for Vanin. "If they want to make a rule making market timing illegal, they should implement such a rule for the future and stop trying to hold people responsible for activity that was not illegal in the past."
Daniel M. Rabinovitz, an attorney representing Druffner, Ficken and Ajro, said his clients were cooperating and had done nothing wrong.
"How can it be deceptive conduct if everybody knew about it?" he said.
An attorney for Shannon did not immediately return message seeking comment. Vanin left the company in 2001; the others resigned under pressure last month.
Prudential spokesman Jim Gordon said: "Our only comment is we have been and continue to cooperate fully with regulators."
The filings claim the operation at the Boston branch office generated as much as $5-million annually in commissions for the group, making Druffner, the group's leader, one of the company's top brokers nationwide. They claim Prudential gave the group additional staff and a fax machine to handle late-day trades, devoting so many resources that the company allegedly neglected orders from retail customers.
"Senior Prudential executives knew and encouraged this activity and were reluctant to pass up the profits generated by courting multimillion-dollar accounts," the Massachusetts complaint said.
The complaint follows last week's allegations that Putnam Investments, a mutual fund company, allowed some customers and employees to engage in market timing trades.
The case against Prudential, however, shows fund companies struggling to halt the voluminous trading by Prudential traders. They sent warnings and shut down Prudential accounts, but the brokers changed the spelling of their names and acquired at least 62 different financial-adviser identification numbers to disguise the volume of trades coming from a single source.
The Massachusetts complaint includes a letter dated June 7, 2002, from the Hartford Mutual Funds to Putnam notifying the company that some employees' investment privileges had been terminated.
The Massachusetts complaint, however, alleges that mutual fund "wholesalers" _ employees of fund companies who deal with big customers _ helped Prudential brokers get around monitoring by the fund companies.