Federal regulators on Wednesday filed civil fraud charges against two former FleetBoston Financial executives, alleging the duo allowed preferred customers to engage in abusive mutual-fund trading practices at the expense of its long-term fund shareholders.
The charges were brought in conjunction with the finalization of a previously disclosed agreement with the Securities and Exchange Commission under which Bank of America agreed to pay $515 million in restitution and fines to settle allegations that it permitted favored clients to engage in market timing and illegal late trading. In addition, the SEC said it reached an agreement with three other former FleetBoston employees. Charlotte, N.C.-based BoA acquired FleetBoston last April.
In a separate deal with New York Attorney General Eliot Spitzer, BoA agreed to cut its advisory fees by $160 million over five years, pegging the total settlement number at $675 million. In keeping with previous fund scandal settlements, BoA neither admitted nor denied any wrongdoing.
Adding to the glut of regulatory actions was the Federal Reserve Bank of Richmond, which imposed new compliance and training policies on BoA. No fines were levied in the agreement, however.
The enforcement actions put an end to one of the darkest chapters in the company's 100-year history. "BoA is pleased to have this issue behind it," the company said in a prepared statement. The company added that the activities outlined in the settlement in no way represent the way it does business and it has taken "swift action" to dismiss those accountable and beef up its internal controls.
The SEC's civil-fraud complaint charges James Tambone, former co-president of FleetBoston's fund distribution arm Columbia Distributor, and Robert Hussey, managing director, with securities fraud for entering into or approving under-the-table market-timing arrangements with preferred clients.
The two oversaw eight trading arrangements with various hedge funds and other clients, allowing them to engage in "frequent, short-term" trading in 16 Columbia funds in exchange for sticky assets, the SEC said. Among the list of market timers were Edward Stern of Canary Capital Partners, Ilyat, Ritchie Capital Management, Daniel Calugar, D.R. Loeser, Signalert and Tandem Financial.
As a result, the defendants and Columbia were able to benefit from the higher fees generated by these secret deals. "Such arrangements benefited Tambone and Hussey, whose compensation depended significantly upon the level of sales," the complaint said.
Despite having outlined in its prospectuses that it would limit the number of exchanges made in its funds, Columbia permitted Ilyat, a San Francisco hedge fund, to make nearly 350 trades in 17 international funds. A bulk of those trades were part of an arrangement negotiated by Hussey, with Tambone's knowledge, that allowed Ilyat to trade in and out of the Newport Tiger Fund, according to the complaint.
"Tambone and Hussey knew or recklessly disregarded that short-term or excessive trading caused potential harm and disruption to the Columbia Funds," the complaint said. Attorneys for both Tambone and Hussey did not return phone calls seeking comment.
As for the other employees implicated in the scandal, the SEC said it settled charges related to market timing with former Columbia executives Peter Martin, Erik Gustafson and Joseph Palombo. Martin, former national sales manager, was charged with approving several timing arrangements that contradicted the language of the prospectus.
Gustafson, a former Columbia portfolio manager, allegedly approved four timing agreements, thereby breaching his fiduciary duty to shareholders. In addition, Palombo, the erstwhile chief operating officer of Columbia Advisors, was charged with turning a blind eye to the abusive trading and failing to take action to protect investors.
Under the terms of the settlement, Martin will pay $60,000 in fines and disgorgement and is suspended from the industry for 12 months. Gustafson will also serve a 12-month suspension and pay a $100,000 penalty. Palombo is suspended from the industry for six months, which will be followed by a 12-month suspension from serving as a director or officer of an investment advisor.
"Columbia Distributor and Columbia Advisors violated a fundamental trust when they placed their own interests ahead of their clients' interests," said David Bergers, associate district administrator of the SEC's Boston office. "This $140 million settlement ensures compensation to injured investors and sends the clear message that such conduct will be firmly punished."
Former BoA broker Theodore Sihpol remains on the hook for criminal charges related to this scandal, which amount to 40 counts of securities fraud. Sihpol, 37, is facing up to 25 years in jail for grand larceny and another four years for falsifying records. He was arrested and subsequently fired by BoA in September 2003 after being identified by regulators as the key player in a scheme that allowed Canary to engage in late trading. His trial began earlier this month.
Having laid timing woes to rest, BoA plans to restructure its fund lineup to include a smaller number of funds. With the Nations funds brand phased out, its fund business now operates under the Columbia name and is headquartered in Boston. It has $331 billion in assets under management and roughly 110 mutual funds, but a good portion of them are duplicative. In an attempt to consolidate its operation and avoid overlap, Columbia has proposed merging four funds, and eliminating five others, subject to shareholder approval.
In evaluating which funds should stay and which should be junked, BoA said it will examine a variety of factors, including transaction costs and the stability of its portfolio managers, especially in instances where performance and expense ratios are similar across a number of funds.
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