Merrill Lynch has reached a $13.5 million joint settlement with state regulators and the New York Stock Exchange over charges that it failed to supervise a group of financial advisers who engaged in abusive market timing of the firm's mutual funds.
Under the terms of the agreement, Merrill will pay a $10 million civil penalty imposed by the NYSE to the state of New Jersey. In addition, the company will implement new compliance procedures to maintain records of all client reallocation requests made through a Merrill employee related to funds held as sub-accounts of variable annuities from outside insurers.
In a separate agreement with the Big Board, Merrill agreed to pay $3.5 million to the state of Connecticut for its abusive trading practices.
"Merrill Lynch failed to reasonably supervise these financial advisers, whose market timing siphoned short-term profits out of mutual funds and harmed long-term investors," said New Jersey Attorney General Peter Harvey, in a statement.
The allegations hinge upon the abusive trading practices of hedge fund Millennium Partners in connection with three financial advisers who joined Merrill's Fort Lee branch office in January 2002. Millennium, a former client of the three advisers, was brought in by the advisers with the understanding that it would be able to make frequent trades using Merrill accounts and outside accounts.
More than one-third of the trades were made in mutual funds held as sub-accounts of variable annuity contracts purchased for Millennium, the original complaint said. The advisers placed 12,457 trades on behalf of Millennium in at least 521 mutual funds and 63 mutual fund sub-accounts of at least 40 variable annuities.
In order to disguise their inappropriate trades, the advisers used multiple accounts, under-the-table agreements and other shady methods. Among the funds that reaped a profit for Millennium, gains totaled roughly $60 million.
Merrill fired the three financial advisers in October 2003 and fined their supervisors after repeated warnings to curb their behavior. However, regulators ultimately determined that Merrill did not do enough to enforce its timing policies, discipline its employees and prevent harm to shareholders.
"When a firm discovers that brokers have engaged in misconduct, the Exchange expects and demands that the firm will heighten supervision and take all necessary action to ensure that the conduct has ceased," said Susan Merrill, chief of enforcement, NYSE Regulation, in a release.