Investors betrayed

NEW YORK – Martha Stewart complained that she was almost trampled by the scrum of reporters at her trial on charges she lied about a stock sale. Stephen J. Treadway’s trial, in the same Manhattan federal court, was considerably quieter, although the civil charges against Treadway were of far greater importance to average investors.

Treadway, former chairman of the board of trustees of the Pimco equity funds, was the defendant in the first mutual fund timing case to go to trial. On June 30, a jury found him liable for defrauding Pimco equity mutual fund investors through a market timing arrangement with hedge fund Canary Capital Partners LLC. Treadway faces possible civil penalties and other sanctions.

The jury found that Treadway allowed a single wealthy investor to engage in a practice closed to everyone else, a practice that ate away at other investors’ returns. It was only the latest chapter in the mutual fund market timing scandal, which first became public in 2003.

“When you invest in a mutual fund, you are trusting that every investor, big or small, rich or poor, is going to be treated the same. That’s not what happened at the Pimco equity fund,” said Randall R. Lee, regional director of the Securities and Exchange Commission’s Pacific Regional Office in Los Angeles.

In the Pimco equity case, hedge fund Canary agreed to make $25 million in long-term investments in a Pimco equity fund in exchange for secret privileges that let it market time Pimco equity funds, rapidly buying and selling the funds to take advantage of differences in the daily closings of stock markets around the globe, according to the SEC. While market timing is not illegal, the fund’s prospectus expressly prohibited such trading, and the company sent hundreds of letters to other rapid traders telling them to stop.

As with all other market timing cases, only the privileged were allowed to skip in and out of funds repeatedly. Canary, for instance, engaged in about 108 buy-and-sell transactions that totaled more than $4 billion in PIMCO equity funds, according to the SEC. Such trading, according to the SEC, can increase funds’ transaction costs and force the funds to keep more cash, lowering their returns.

Pimco stock funds are now part of the Allianz fund family. Pimco’s bond-fund group, Pacific Investment Management Co., was never accused of wrongdoing.

Pimco stock funds have plenty of market-timing company. Since the scandal began, some of the biggest names in the industry have paid nearly $2.8 billion in civil penalties and disgorgements, according to the SEC: Janus Capital Management, LLC; Invesco Funds Group Inc.; AIM Advisors Inc. and AIM Distributors; and Alliance Capital Management, L.P.

“The mutual fund industry had coasted on its reputation as the clean corner of the securities markets for years,” said Barbara Roper, director of investor protection at the Consumer Federation of America. “The trading scandals were sort of a wake-up call that maybe everything wasn’t as ethical and aboveboard as lots of people had thought it was.”