Lawsuit Reveals Rampant Timing Arrangements At Seligman

Attorney General Spitzer today filed a complaint against mutual fund manager J. & W. Seligman & Company and its current President, Brian Zino, alleging that the firm sanctioned numerous secret timing arrangements that cost small investors $80 million.

The lawsuit, filed today in State Supreme Court in Manhattan, refutes a claim by company officials that there was only limited timing activity at Seligman. The company made that claim last year, saying it had investigated itself thoroughly and found only four cases of timing arrangements that caused $2 million in damage to its investors.

The Attorney General’s Office disagreed and sought a court order requiring Seligman to provide documents and make employees available for testimony. The court granted that request and the Attorney General’s office uncovered 35 previously undisclosed agreements with mutual fund timers. During the period from 1998 to 2001, Seligman tracked and tolerated the activities of these "special agreements" but did little or nothing to shut them down. For example, one timer was allowed to conduct 400 "round trip" exchanges in six Seligman funds during this period – a time when regular investors were limited to eight exchanges per fund each year.

"While it is certainly within a company’s rights to continue to contest the evidence, the record shows that there was a clear breach of fiduciary duty at Seligman and that the company’s damage estimates are inadequate," Spitzer said.

Spitzer said that the company’s claim to have investigated itself was disingenuous because it focused on a conveniently limited time frame, from 2001 to 2003. When the Attorney General’s office reviewed the "special arrangements" from the earlier time period noted above, investigators found many more timing arrangements that harmed small investors.

The evidence also shows that senior managers were well aware of the improper trading and its harmful effect on investors. (See attached.)

The Attorney General’s lawsuit, which names the company, its president, its fund distributor and shareholder services agent, seeks injunctive relief, disgorgement of fees and profits, and restitution, as well as penalties.

The Attorney General’s case is being handled by Assistant Attorney General Verle Johnson, under the direction of Enforcement Section Chief Maria Filipakis and Bureau Chief David D. Brown IV of the Investment Protection Bureau, with assistance provided by Economist Hampton Finer of the Attorney General’s Public Advocacy Division.

Excerpts of E-mails Cited in the Seligman Complaint:


1. In December 2002, Seligman’s national sales director complained in an e-mail that timing activity:

"disrupts fund operations [and] steals performance from the other investors . . .."

The same executive anguished over his role in the schemes and said he felt like a character in the well-known war movie "Apocalypse Now." He described "the horror" of the situation and said he was:

"...tortured by this wrenching nightmare of timing money that is slowly churning like a cancer eroding away at the foundations of our complex . . . ."


2. In January 2001, the portfolio manager for the Seligman International Fund wrote to the chief investment officer, informing him that:

"the execution costs [caused by timing activity] are huge to our existing shareholders. . . . Thus, I think so far, this activity has cost the fund about [1.4 percent]."


3. In November 2002, a Seligman employee wrote this email to the president of Seligman Advisors Inc. to warn about timing activity:

"I write this memo to bring to your attention an escalating problem that threatens the performance of our funds . . . . It is the practice of [fund timing] by professional traders (usually hedge funds), which loots percentage points in total return from the funds these traders utilize. . . . [I]t is a ticking time bomb for the entire mutual fund industry, set to go off the day the press realizes that fund companies routinely sell the returns earned by the shareholders of their funds to short-term traders."


4. In November 2002, the head of an affiliated company wrote this email to the national sales director:

"I spoke to [the Chief Investment Officer] and Brian Zino about this relationship and I continue to feel very uncomfortable about the risks we are assuming in keeping it on our books. Based on my prior e-mails with you, I want to move immediately in getting this group out of the complex. They show absolutely no interest in adhering to our policies and with the risks we incur, this is going to come back and bite us. . . . [W]e are allowing what the regulators and watchdogs have been calling ‘unethical practices’ which are done at the expense of fund shareholders."

Despite this stark warning, the particular timing arrangement at issue was not terminated until nearly a year later, and investigators believe it would have continued longer if the Attorney General had not announced his investigation of mutual fund timing in early September 2003.

Attachments:

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