Michael Collora, a lawyer for the brokers (who have not yet been publicly identified), says they intend to contest the charges. "They believe they acted appropriately, and everything they did was known to upper management," he says. A Prudential spokesman says the company wasn't aware of any pending charges but was continuing to cooperate in the inquiry, which began this past summer.
The expected moves come on the heels of fraud charges that Galvin's securities division filed on Oct. 28 against Boston-based Putnam Investment Management and two of its fund managers. In that case, Galvin alleged that Putnam allowed individual investors and the fund managers to trade in and out of mutual funds -- a practice called market timing -- at the expense of other investors (see BW Online, 10/29/03, "How Putnam Landed in This Pickle").
UNEQUAL OPPORTUNITY? Putnam isn't alone. Galvin has said more funds are under his searchlight and could face charges. In its own investigation, the Securities & Exchange Commission subpoenaed 88 firms for information and has found that market timing occurred at about half of them.
The practice isn't illegal, but Putnam's policy -- like that of most other mutual-fund companies -- is to discourage market timing. Allowing some investors and managers to do it, therefore, violates Putnam's fiduciary duty to treat all shareholders equally. "There was extra opportunity for some investors," says Galvin. The SEC also charged the fund managers with fraud. Putnam has denied wrongdoing. The two managers have since left the company.
The Prudential probe also involves market timing, but by different means. The Massachusetts state securities division alleges that brokers, who were trading for large investors such as hedge funds, hid their identities to avoid detection from the market-timing police at mutual-fund firms. How? Simply by creating new accounts with different identification numbers and names behind them to make it look like trades were coming from different places.
SUSPICION SPREADS. A broker at a large firm like Prudential "has access to the computer right there and could easily execute trades under a variety of fictitious names and with a new account number any time," says David Marder, a partner with Robins Kaplan Miller & Ciresi in Boston and former senior trial counsel at the SEC.
Prudential's woes don't end in Massachusetts. The SEC, New York Attorney General Elliot Spitzer, and the National Association of Securities Dealers also have acknowledged that they're probing activities at Prudential Securities, which has been part of Wachovia Securities since July.
Galvin's team suspects the brokers may also have had help from within mutual-fund firms. They have issued subpoenas to one salesperson at each of three major fund companies: Fidelity Investments, Franklin Resources, and Morgan Stanley (MWD
). The individuals are expected to be deposed by state securities investigators within the next few weeks. A Fidelity spokeswoman says the subpoena was simply a request for information. Franklin denies wrongdoing, and Morgan Stanley says its policy is to discourage market timing. Arner is a correspondent in BusinessWeek's Boston bureau