SEC missed a chance in its probe of Putnam
By Jeffrey Krasner and Andrew Caffrey, Globe Staff, 11/16/2003
When Peter Scannell went to the sixth-floor office of the Securities and Exchange Commission in Boston last spring to inform the agency that his employer, mutual fund giant Putnam Investments, had failed to stop improper market-timing trades, he didn't know a key fact: SEC examiners one floor below were nearing the end of a fourmonth review of Putnam.
Despite the review of Putnam's record keeping, internal controls, and ability to comply with securities laws, SEC examiners never sought information from Putnam on market timing after getting Scannell's tip, according to a person familiar with the SEC's activities. In fact, Putnam officials and other people familiar with the results of the SEC examination told the Globe that the agency issued a report of its findings to Putnam in mid-May that did not identify any problems with market timing.
The examination marks another missed opportunity by the federal agency to break open the trading scandal that is now sweeping the mutual fund industry. The investigations into Putnam and other fund companies were led largely by state regulators, with the SEC weighing in afterward. Congress and state regulators have blasted the agency as an ineffectual cop on the financial beat, and the new Putnam revelation is drawing more fire.
"This is the most disturbing news yet for mutual fund investors," said Representative Edward Markey, Democrat of Malden, who was chairman of the House Telecommunications and Finance Subcommittee when it had oversight of the SEC and the funds industry. "This isn't an example of not enough cops on the beat because there isn't enough money. It's an example of the cop going in, looking at a firm that had a history of problems, and getting a tip that there were problems, but still not finding anything."
Herb Perone, an SEC spokesman in Washington, said: "We're in the midst of an intense internal review to determine exactly what happened and what improvements are necessary to handle whistle-blowers, complaints, and tips."
The longtime head of the SEC's Boston office, Juan M. Marcelino, resigned two weeks ago after the Globe and then other media reported that the SEC ignored the whistle-blower Scannell. But it was not known at the time that the SEC's Boston office also was undertaking a lengthy review of Putnam, the second-biggest funds company in Boston and the nation's fifth largest, at the time that Scannell came in.
Reached at his home, Marcelino declined to answer questions about the Putnam matter and his office's response. "I feel uncomfortable talking about this," he said. "I just want to fade into anonymity."
A Putnam spokeswoman also declined to comment.
The mutual funds scandal blew open in early September when New York Attorney General Eliot Spitzer charged a New Jersey hedge fund with illegal and abusive trading practices involving four fund companies. In Massachusetts, Secretary of State William F. Galvin acted on information provided by Scannell and began investigating Putnam. Scannell went to Galvin's office after the SEC in Boston took no action. Separately, the SEC eventually began an investigation of market-timing trades at Putnam after its Washington-based chief of enforcement, Stephen M. Cutler, personally received a tip in September.
In late October, both the SEC and Galvin's office charged Putnam and two of its money mangers with civil securities fraud, alleging that they had engaged in or had allowed unauthorized market-timing trades. The charges forced the resignation of the longtime Putnam chief executive, Lawrence J. Lasser, on Nov. 3.
Last week, Putnam reached a partial settlement with the SEC in which it agreed to a series of reforms. The settlement infuriated Spitzer and Galvin, who said the SEC had been too lenient with Putnam.
Scannell paid his initial visit to the SEC on April 28, according to a billing record he has from his attorney. So his tip and the agency's review took place several months before the industry scandal broke, a time when most people had never heard of market timing. Securities lawyers said it would have been unusual for SEC examiners to look for market-timing trades during the routine examination they were conducting at Putnam, which started in mid-January.
The agency undertakes these reviews every few years, depending on the size of the investment firm. The exam focuses on the controls, procedures, and record keeping used and kept by investment companies to document they are complying with laws and regulations.
"The primary focus is to go through the books and records and make sure they are in order," said David Marder, a former assistant administrator in the SEC's Boston office, who left the agency in 2001. He is now a securities attorney at Robins Kaplan Miller & Ciresi LLP in Boston.
But in the Putnam case, Scannell's tip should have prompted the SEC to look directly for such trades while its examiners were in the midst of the company review, according to Marder and other former SEC lawyers.
"If there's an open exam and they got a tip about the subject of that exam, it would be logical for the examiner to be asked to follow up on the substance of that tip," Marder said. "All they've got to do is pick up the phone and tell the examiner, `Hey, next time you're over there, look into it.' "
Moreover, information about a prominent institution like Putnam normally would have been passed along to the Boston office's top managers, who would have known that the branch was in the midst of the Putnam examination, Marder and other former staff members said.
Galvin, a frequent and sharp critic of the SEC, has blasted the agency on its handling of the Putnam case. "If they went in and couldn't find anything, it just shows how ineffective they are," Galvin said. "How could they go in and not find anything?"
Since multiple investigations have shown the extent of market timing, securities lawyers said the SEC has recently amended the checklist it uses for routine exams to include several questions about market-timing trading activities.
boston.com
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Pull out of Putnam
This is in response to your Nov. 6 story regarding the decision of Robert Newman, executive director of the Utah Retirement System, to keep Utah's public pension assets in Putnam Investments. I believe one of the first orders of business for Gov. Olene Walker is to review that decision. Certain privileged Putnam fund managers and clients were allowed for several years to enrich themselves through illegal trading practices, at the possible expense of other Putnam investors.
In response to this scandal, Rhode Island, Pennsylvania, Massachusetts, New York, Vermont and Iowa have all withdrawn their public assets from Putnam. Newman justifies keeping Utah's pension assets invested there on grounds that the particular Putnam funds which Utah is invested in are not presently under scrutiny, and that these investments are not presently threatened, i.e., they are not losing money.
Neither of these points is the issue. The Putnam CEO oversaw the illegal practices. Only someone extremely naive would assume that the other Putnam fund managers did not know what was going on. The reason other states withdrew their assets was because they refused to do business with an organization rife with systemic fiduciary irresponsibility. Putnam Investments has no excuse for its behavior, and Mr. Newman has no excuse for keeping Utah State retirement money with them.
Charles R. Hickenlooper
Taylorsville
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