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Keep Mutual Funds Fair

September 08, 2003

The stock market's recent upswing finally gave millions of Americans the courage once again to read their sadly deflated retirement account statements. But the last thing ordinary investors needed was the troubling news about mutual funds and hedge funds that prompted the latest turf tussle between the federal Securities and Exchange Commission and New York Atty. Gen. Eliot Spitzer.

The SEC grumbles that Spitzer is a political opportunist, and nearsighted Congress members want to bar states like New York from policing the securities industry. But Spitzer's dogged insistence that big investors not line their pockets at the expense of little guys proves that states play a vital role in keeping financial markets honest. Spitzer's investigation into mutual funds also renews questions about the SEC's effectiveness as an industry watchdog.

He has unveiled stunning evidence that big players use cozy relationships with mutual fund operators to profit at the expense of less-sophisticated investors. The scheming, his evidence suggests, involves fund operators who let big investors trade after markets close, the equivalent of accepting bets on races long after horses cross the finish line. Spitzer believes the backroom dealing -- which delivers profits to big investors and fees for operators -- is widespread.

That's bad news for 95 million Americans who rely on mutual fund investments to pay for college tuitions and to finance retirement. Mutual funds long have enjoyed a squeaky-clean reputation, one reason their combined assets increased by $52.4 billion in July to $6.87 trillion.

Spitzer's complicated, 44-page complaint focuses on deals by Edward Stern, a tycoon who allegedly used mutual funds, including one managed by Bank of America, to conduct illegal, after-hours trades. Stern, who paid $40 million to settle a case brought by Spitzer, but admitted no wrongdoing, allegedly used a hedge fund -- a risky investment pool, long the province of the very wealthy -- to capture profits that otherwise would have been divided among others in the mutual fund.

Fortunately for investors, Congress had begun a mutual fund review before Spitzer's investigation broke. U.S. Rep. Michael G. Oxley (R-Ohio), co-author of the post-Enron Sarbanes-Oxley Act of 2002, promises to determine whether fund investors have been "getting a fair shake." But Congress must broaden its investigation beyond corporate governance issues, audit practices and whether funds have overcharged individuals. The credibility and integrity of American financial markets are as much a concern to Junior, Mom, Pop and Grandma as to economists, bankers and high rollers. They need regulators to ensure that their savings aren't stolen by insiders taking care of swells.

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