TRENTON
– Attorney General Peter C. Harvey
today announced that the New
Jersey Bureau of Securities has filed
an administrative complaint against three
New Jersey-based financial advisers who
allegedly defrauded mutual fund companies
and their long-term shareholders in connection
with hundreds of millions of dollars in
market timing trades. This suit is further
action by Attorney General Harvey stemming
from the investigation behind the $10
million Merrill Lynch settlement announced
last week.
The
allegations concern trades made by the
three financial advisers on behalf of
a hedge fund, Millennium Partners, L.P.,
which was their primary client from 2000
though 2003, while they were employed
first by UBS PaineWebber Inc., then Merrill
Lynch Pierce Fenner & Smith Inc. The
complaint filed by the Bureau of Securities
in the Office of the Attorney General
seeks civil monetary penalties from the
three financial advisers, Christopher
Chung of Edgewater, Kevin Brunnock of
Fort Lee, and William Savino of Fort Lee.
The Attorney General, through the Bureau,
today revoked their registration to trade
securities as broker-dealer agents in
New Jersey.
The
Defendants
The
three financial advisers, known as the
“CBS Group,” sought to profit
from market fluctuations by quickly trading
in and out of mutual funds, skimming off
short-term gains to the detriment of long-term
investors. Because Merrill Lynch and the
mutual funds had policies against market
timing, the three financial advisers devised
a variety of fraudulent schemes to conduct
and disguise their trading on behalf of
Millennium, the Bureau alleges. Merrill
Lynch is cooperating with the Attorney
General’s Office in its prosecution
of this case.
“These
three financial advisers cheated small
investors to benefit their large corporate
client and to enrich themselves,”
said Attorney General Harvey. “They
market timed mutual funds that were intended
to provide relatively stable, long-term
investments for ordinary people planning
for their retirement or their children’s
college tuition. Most mutual funds prohibit
market timing, because it siphons off
short-term profits and makes funds more
volatile. However, these financial advisers
devised scheme after scheme to hide their
conduct and defraud mutual funds and fund
investors.”
On
March 8, Attorney General Harvey announced
that he had reached a $10 million settlement
with Merrill Lynch regarding the firm’s
failure to reasonably supervise the three
financial advisers. Merrill Lynch agreed
as part of the settlement to implement
significant reforms to ensure better supervision
of its financial advisers.
The
CBS Group’s Market Timing Activity
Shortly
after the CBS Group was hired by Merrill
Lynch in January 2002, supervisors warned
the three financial advisers that they
were violating the firm’s policies
against market timing. However, the three
financial advisers continued to market
time until they were fired in October
2003. The group’s market timing
for Millennium was a significant reason
why the Paramus Complex of Merrill Lynch,
which includes the Fort Lee office where
the CBS Group worked, was ranked No. 1
in the country for revenues for the firm
in the first quarter of 2002. Between
January and April 2002, the CBS Group
placed more than 3,700 trades on behalf
of Millennium, many of which were held
for less than five business days.
The
CBS Group sustained and hid its mutual
fund trading activity by what Chung proudly
called “deviancy at its best”
in one recorded phone call that is transcribed
in the Bureau’s complaint. The complaint
can be viewed online, linked to this press
release at www.njpublicsafety.com.
Many of the trades by the CBS Group, both
at UBS Paine Webber and Merrill Lynch,
involved mutual funds held as sub-accounts
of variable annuity contracts, which are
insurance products with an investment
component.
In
about one year of trading for Millennium
at UBS Paine Webber, the CBS Group placed
12,953 trades in more than 350 mutual
funds. Millennium made profits in at least
243 of those funds. In those funds where
Millennium made profits, its gains totaled
about $25 million.
While at UBS Paine Webber, the CBS Group
also placed trades in at least 31 mutual
fund sub-accounts, through at least 15
variable annuity contracts. In at least
27 of the sub-accounts, Millennium made
profits, which totaled about $4.5 million.
At
Merrill Lynch, the three financial advisers,
and a fourth who was involved to a lesser
degree, placed 12,457 trades for Millennium
in at least 521 mutual funds and 63 mutual
fund sub-accounts of at least 40 variable
annuities. Millennium made profits in
over half of the funds and fund sub-accounts.
In those funds where Millennium made profits,
its gains totaled about $60 million.
The
investigation by the Bureau of Securities
was conducted by Chief of Enforcement
Richard Barry, Regulatory Attorney Ethan
Silver and Investigators Julian Leone
and James Monagle. Deputy Attorney General
Anna Lascurain, Chief of the Securities
Fraud Prosecution Section of the Division
of Law, handled the case for the Attorney
General.
The
schemes used by the CBS Group included:
Merrill
Lynch Settlement Reforms
Under
the settlement announced last week, Merrill
Lynch and the Merrill Lynch Insurance
Group Inc. will implement new procedures
to maintain, as a required “book
and record” under New Jersey and
federal securities laws, records of all
client reallocation requests involving
mutual funds held as sub-accounts of annuity
products of outside insurance carriers.
Neither firm previously recorded those
requests, despite state and federal rules
requiring financial advisers to record
every trade of a security for a client.
Without records, those transactions could
not be properly supervised. The lack of
record-keeping for such transactions is
an industry-wide issue.
Variable
annuity and corporate-owned life insurance
contracts were purchased in the names
of principals and employees of Millennium
to meet the requirement that such contracts
be purchased for a “natural person,”
but the economic reality and purpose of
the contracts was to establish vehicles
for Millennium to stealthily gain trading
capacity for market timing.
The
three defendants face potential civil
monetary penalties of not more than $10,000
for a first violation of the New Jersey
Securities Law and not more than $20,000
for each additional violation. Each and
every act that they committed in furtherance
of their fraudulent conduct is a separate
violation of the Securities Law.
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