Now that New York State Attorney General Eliot Spitzer's probe has taken down the chairmen of Putnam Investments and Strong Funds, and has called the fund industry a "cesspool" filled with "vermin" in the process, he's not only gotten the attention of the entire regulatory force in the nation. He's riled the public.

And in so doing, Spitzer has instigated a probe that will inevitably lead to sweeping change.

Spitzer's acid lashings have not spared SEC or other regulators. He's even said Paul Roye, the nation's top cop for mutual funds, should step down. These words, coming from the man who took on Tommy Gambino's extortion business, have already had effect. The chief of the SEC's Boston office has walked away from a job he's held for the past 10 years.

The attorney general goes even further, intimating that fund companies could be fined billions and forced to return billions more in ill-gotten gains.

One high-placed Washington attorney notes that funds have extended to shareholders the right to freely move in and out of funds. In fact, this has been one of the key reasons the industry has landed billions of defined contribution dollars. Therefore, there isn't a single fund company that isn't at risk of having Spitzer knock down their door.

Fear and Rancor

For all of this fear and rancor, fund executives and regulators, on the whole, applaud Spitzer's actions, a poll of 1,000 Money Management Executive readers this week shows. Of the more than 100 people who responded, an overwhelming majority said that while the current investigation is painful, Spitzer is doing the right thing.

One fund wholesaler noted that arbitraging fund NAVs and giving preferential treatment to hedge fund clients has long been widely known throughout the industry.

"By and large, Eliot Spitzer is performing a valuable public service and working cooperatively with the SEC to address a problem of huge significance to the fund industry," Arthur Levitt, former chairman of the SEC, told MME.

"The fund industry should recognize that the vigor of the investigation by both the state and the SEC is their best hope of restoring public confidence," Levitt said. "It makes very little sense for the industry to fight Spitzer."

As to why the SEC failed to detect market timing and late trading, Levitt and other regulators take the Commission off the hook, noting that this whole maelstrom was caused by a single whistle blower, the Putnam phone rep.

"Why wasn't the SEC able to see this? You could say that about almost any scandal. This whole episode was revealed by a leak," Levitt said.

But not everyone is so kind to the SEC or to the industry. Scott Harshbarger, the former attorney general of Massachusetts, said the industry is guilty of "denial and a deafening silence.

"The SEC, which has been aggressive in other areas, was behind the curve. The cop was asleep at the wheel," Harshbarger said. "There's been a major vacuum in terms of enforcement. And each time there have been allegations that Spitzer is overstepping his bounds, the fact is, he has come up with the goods."

Into the vacuum steps Eliot Spitzer who, regulators say, had no idea what he was landing into when he started peering into the rabbit hole that Peter Scannell, the brave Putnam phone rep, led him to.

Like Alice, Spitzer entered into a wonderland that he, himself, has likened to picking up a rock and finding one vermin after another.

The fund industry has long prided itself, boasted, even, that it has been built on integrity. "You just don't want to believe that there is a lack of integrity and honesty there," Harshbarger said.

And that, fund executives and regulators agree, has largely been true. So true that the SEC and fund compliance officers themselves never thought to look for trouble.

The endgame, leaders in the fund industry say, inevitably will be wholesale reform, and the pain and shame that is rocking the entire industry at this moment, will pass.

In the end, Spitzer, the most feared man on Wall Street, may fine fund companies a few billion dollars. And while fund executives might not publicly thank him, privately, they already are.

Editor's Note: Money Management Executive will publish excerpts from the nearly 100 responses we received from a mailing to 1,000 of our readers in the next issue.

Copyright 2003 Thomson Media Inc. All Rights Reserved.

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