NASD Says Firms Directed Investors to Costly Options to Boost Their Commissions
By Arden Dale
Dow Jones Newswires
Mutual-fund sales that allow brokers to fatten their commissions at the expense of shareholders continue to come under fire.
The National Association of Securities Dealers announced yesterday that it had fined Merrill Lynch & Co. $14 million, Wells Fargo & Co. $3 million and Linsco/Private Ledger Corp. $2.4 million for directing investors into mutual-fund share classes that cost the clients more than necessary and reduced returns while providing brokers with higher commissions.
In addition to the fines, the firms agreed to a remediation plan in which investors can have their fund shares converted to a more appropriate class or, depending on the circumstances, receive a cash payment. The firms settled the NASD claims without admitting or denying the allegations.
"The fines are substantial but the remediation to investors is going to be far more so," said Barry Goldsmith, NASD executive vice president and head of enforcement.
The investigation centered around the sale of fund shares that charge investors a commission only when the shares are sold. Investors are often drawn to these shares -- commonly known as B-shares -- because they can put all their money to work immediately, rather than having a portion sliced off upfront to pay the broker, as is the case with so-called A-shares.
The problem for investors is that B-shares generally charge higher ongoing fees than A-shares. As a result of these higher fees, an investor's returns over time can be lower than if they had purchased A-shares. That is especially the case for investors who would have qualified for commission discounts -- so-called breakpoints -- on the A-shares because they were making large investments. Meanwhile, a broker would earn more money putting a client that qualified for the breakpoints -- which generally started around $50,000 -- by putting them into the B-shares than if they were directed to A-shares.
In other circumstances investors can be inappropriately placed into so-called C-shares, which charge high ongoing fees instead of an upfront or back-end commission.
The NASD's investigation against the three firms examined transactions during an 18-month period between January 2002 and July 2003. The regulator said the three firms recommended and sold B- and C-shares to customers without considering or adequately disclosing on a consistent basis that an equal investment in A-shares would generally have been more advantageous to the customers.
The NASD's action yesterday is the latest in a crackdown after the regulatory group discovered that many investors had been placed in inappropriate share classes and that Wall Street firms were not properly policing their brokers to ensure that rules were followed. Earlier this year, the NASD settled similar charges against Citigroup Inc.'s Citigroup Global Markets; American Express Financial Advisors, which is now Ameriprise Financial, and JPMorgan Chase & Co.'s Chase Investment Services.
More companies may see penalties in the future. "There are other cases currently under investigation," the NASD's Mr. Goldsmith said.
"While there is nothing inherently wrong about investing in B- or C-shares and they are appropriate for many investors, they are not the optimal investment for everyone," Merrill Lynch said in a statement yesterday. "We have already introduced changes to help our financial advisors provide better advice for each of their clients and help us improve the services we offer to all of our clients."
A spokesperson for Wells Fargo wasn't immediately available for comment.