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Rep and Branch Managers Barred and Ordered To Pay Penalties For Participating In Scheme To Evade Mutual Fund Market Timing Restrictions

Thomas C. Bridge, James D. Edge, Jeffrey K. Robles, Exchange Act Rel. 60736, September 29, 2009

Time since appeal filed – 1 year five months 29 days
Time since last brief filed – 1 year two months four days
Time since oral argument – 4 months 16 days

All three respondents were formerly associated with A.G. Edwards. Bridge, Charles Sacco (who settled the case before trial and consented to a bar with a right to reapply to associate with a broker or dealer after two years) were found after trial to have violated the anti-fraud provisions of the Exchange and Securities Acts for employing deceptive tactics to evade mutual fund restrictions on frequent market market timing trades. Edge (Bridge's branch manager) and Robles (Sacco's branch manager) were found at trial to have failed to supervise. The Commission upheld the ALJ's findings of violations and barred Bridge from broker-dealer association with a right to reapply after five years. Edge was barred from associating as a supervisor with a right to reapply after five years and Robles was barred from supervisory association with a right to reapply in three years. Bridge was also subjected to a cease and desist order and ordered to pay $39,000 of disgorgement and a $240,000 civil penalty. Edge was ordered to pay a $120,000 penalty and Robles a $39,000 penalty.

Market timing for the uninitiated is "the frequent buying and selling of mutual fund shares in order to take advantage of the fact that there may be a lag between a change in the value of a mutual fund’s portfolio securities and the reflection of that change in the fund’s share price." Disclosure Regarding Market Timing and Selective Disclosure of Portfolio Holdings (Final Rule), Investment Company Act Rel. No. 26418 (Apr. 16, 2004), 82 SEC Docket 2685, 2686 n.11. It is itself not illegal but "may nevertheless harm shareholders because it may dilute the value of long-term shareholders’ interests, may cause mutual funds to manage their portfolios in a disadvantageous manner, and may incur increased brokerage and administrative costs related to the frequent purchases and redemptions associated with market timing." Disclosure Regarding Market Timing and Selective Disclosure of Portfolio Holdings (Proposed Rule), Investment Co. Act Rel. No. 26287 (Dec. 11, 2003), 81 SEC Docket 2971, 2979-80. (internal quotations omitted)

Many mutual funds place restrictions on frequent trading to limit this practice and the harm it causes to other shareholders. Bridge and Sacco took various steps to conceal their frequent trading activities, including opening up multiple accounts in different customer names in an attempt to hide the identities of their clients from the mutual funds. The Commission found that Robles knew of Sacco's trading and restrictions on his trading my funds, but did not attempt to confirm wither Sacco was complying with those restrictions. The amount of trading was huge – Bridge over a two year period bought and sold $1.1 billion of fund shares. Edge knew of restriction letters that Bridge received from funds and Bridge established new accounts for a client who wanted to market time.

The Commission ruled that because Bridge and Sacco undertook various deceptive tactics, such as opening new accounts under different names after clients had been warned to cease frequent trading they violated the anti-fraud provisions. The Commission found that this conduct involved the making of materially false statements or omissions.


The Commission hinged its finding of violations on the false statement and material omission clauses of the anti-fraud provisions. But the statues and rules also prohibit any device, scheme, or artifice to defraud. No materially false statement or omission is required. Why does the Commission feel compelled to seek material omissions or statements when it could simplify matters by finding that Bridge and Sacco engaged in a fraudulent scheme? Suppose Bridge and Sacco had engaged in trades for clients that they knew exceeded fund restrictions on frequent trading but had not set up deceptive new accounts to evade restriction letters from funds? Would not their conduct, which they knew violated published fund trading limits, have still violated the device, scheme or artifice clause? Under the Commission's formulation the rep (and his client) who engage in frequent trading only until receiving a warning letter from a fund are given a limited license to steal from long term fund shareholders. This is the flaw in insisting that anti-fraud liability is limited to material deception – the violation doesn't occur until after the fund restricts trading activity by the account and the pre-letter trades are immunized.

Why does the Commission delay resolution of cases such as this for oral arguments? If it is going to insist on hearing oral arguments why would it wait more than 9 months after the briefs were filed to schedule the argument?