Introduction to Stocks and Mutual Funds


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Introduction to Stocks and Mutual Funds

  1. 1. Chapter 13 Mutual Fund Scandals
  2. 2. After-hours Trading <ul><li>Mutual funds have many portfolio managers who handle a particular fund. </li></ul><ul><li>Mutual fund values are determined at the end of the day. </li></ul>
  3. 3. After-hours Scandal <ul><li>Some firms were allowed to deposit or withdraw funds after the fund value was determined. </li></ul><ul><li>Why? They waited to see how the Asian market performed. </li></ul>
  4. 4. After-hours Scandal <ul><li>If Asia was up, deposit more. </li></ul><ul><li>If Asia was down, withdraw </li></ul>
  5. 5. After-hours Scandal <ul><li>Firm makes higher return than the rest of the mutual fund investors </li></ul><ul><li>How does that hurt us? </li></ul><ul><li>Portfolio manager doesn’t know whether firm is going to withdraw huge amount of money so he has to keep a bigger % of fund in cash. </li></ul><ul><li>Cash lowers our return </li></ul>
  6. 6. After-hours Scandal Funds Paid Big Fines
  7. 7. Better Disclosures* <ul><li>Brokers may receive higher commission on one mutual fund than another. Gives broker wrong incentive. </li></ul><ul><li>New NASD rule requires disclosure to client if brokers receive different compensation from named mutual funds and nature of arrangement. </li></ul>* WSJ 8/8/03 and 1/14/04
  8. 8. Better Disclosures* <ul><li>Fund companies pay brokerage houses fees to be on the list of funds sold by the brokers (shelf space) called revenue sharing. Mutual funds pay $1.5 billion in revenue sharing payments annually. </li></ul><ul><li>Just 7 fund companies account for 90% to 95% of all mutual fund sales at Edward Jones & Co. </li></ul><ul><li>New NASD rule says broker must give client a list of revenue sharing mutual funds in descending order of payment to brokerage house. </li></ul>
  9. 9. Better Disclosures* <ul><li>BUT NASD is o.k. with if prospectus says “substantial amounts” are paid to broker to sell fund. </li></ul><ul><li>SEC proposes new rules to make relationship clearer. </li></ul><ul><li>In Nov. 2003 Morgan Stanley charged by SEC and NASD with giving certain mutual fund companies preferences in exchange for the mutual fund doing its trading with Morgan Stanley. Morgan Stanley settled without admitting or denying guilt but paid $50 million to investors and promised better disclosure. </li></ul>
  10. 10. American Express Financial Plans* <ul><li>Pay $500 for an “independent” financial plan. </li></ul><ul><li>Get suggestions to cash out accounts with other firms and buy AmEx products. </li></ul><ul><li>“ Open secret” in the business is that it is a selling opportunity. </li></ul>*WSJ 2/9/04
  11. 11. Independent Financial Plans <ul><li>¾ of AmEx sales generated by financial plans. </li></ul><ul><li>About 9.5 million households received plans between mid-2000 and mid-2002 from brokers, insurance agents, and other financial advisors. </li></ul><ul><li>AmEx gets revenue sharing payments from 11 outside fund families. Not disclosed to clients. </li></ul><ul><li>AmEx funds perform in bottom 1/3 of all fund families. </li></ul>
  12. 12. Source of Investment Advice* * WSJ 5/14/04 Search for Vanguard Diehard to get advice from other investors to avoid fees
  13. 13. Questions?