Securities Regulators Take Aim At VAs

Securities Regulators Take Aim At VAs

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The regulatory storm has moved over the variable annuity industry, but forecasters still are deciding whether it will topple financial services towers or simply muss the weathermans hair.

For a few months, most of the headlines about investigations of market timing and other problems with money management operations focused on mutual funds. Some of the fund companies involved just happened to be subsidiaries of insurance companies.

Companies that have disclosed that they have reported possible fund market-timing problems to regulators or received inquiries about possible problems from regulators include Massachusetts Financial Services Company, a unit of Sun Life Financial Inc., Toronto; Principal Financial Group Inc., Des Moines, Iowa; Prudential Financial Inc., Newark, N.J.; and Putnam Investments L.L.C., a unit of Marsh & McLennan Companies Inc., New York.

Milberg Weiss Bershad Hynes & Lerach L.L.P., New York, a law firm that often helps organize class-action suits, lists 14 suits on its Web site that involve allegations of mutual fund company market-timing problems. None of the suits names a VA issuer as the defendant.

But the U.S. Securities and Exchange Commission sent VA issuers a letter last fall that asked them about possible marketing timing problems.

Officials in the office of New York Attorney General Eliot Spitzer are declining to comment, even in the most general terms, about whether they are or are not looking at VA issuers as a group.

James Shorris, a deputy for enforcement at the NASD, Washington, says the self-regulatory body has reason to believe a dozen insurers may have VA market-timing problems. The 12 insurers “know that weve asked for information,” he says.

The NASD also is preparing to send variable annuity issuers inquiries that will deal with topics such as marketing practices, trading practices, compliance with anti-money laundering laws, the suitability of the products sold to particular customers, and the suitability of some sales that replaced one VA in a customers portfolio with another VA, Shorris says.

One company, Conseco Inc., Carmel, Ind., has disclosed that it received a notice from the SEC of an investigation of a VA unit that it sold to Inviva Inc., New York, in 2002. Conseco reports that, as far as it can tell, its old variable insurance unit did not break any state or federal law before its sale.

In any case, “we are no longer in the variable annuity business,” says Conseco spokesman Jim Rosensteele.

Several other insurers have reported receiving letters from the SEC, NASD or Spitzers office asking about their VA operations.

But “to date, were not aware of any evidence that market timing is a widespread problem in the variable annuity industry,” says Michael DeGeorge, general counsel of the National Association for Variable Annuities, Reston, Va.

Joan Boros, a partner at Jorden Burt L.L.P., Washington, says she and several colleagues have helped many insurers with their responses to the SEC request for information about VA market-timing information. When those companies looked at their operations, they found no evidence of market-timing problems, Boros says.

At this point, “I really think its too early to tell” whether there will be a serious problem with litigation related to market timing, Boros says.

Traditionally, the financial services industry has applied the term “market timing” to almost any effort to profit from predictions about short-term market fluctuations.

Regulators are accusing the big investors now under investigation of using more aggressive tactics. In some cases, the investors tried to pump large amounts of cash through funds in an effort to profit from small market inefficiencies, such as differences between the share prices of international stock funds and the underlying value of the stocks inside the funds.

VA issuers usually let ordinary investors shift assets from one subaccount to another every few months without paying commissions. Investors who keep assets in the contracts usually can move assets without worrying about tax consequences.

But many VA issuers limit investors ability to shift assets, because rapid asset changes drive up the companies trading costs and force them to keep large amounts of cash on hand to pay off flighty shareholders.

Spitzers investigators and other regulators say they are getting involved because some money managers negotiated secret deals to let big investors get around the funds own restrictions on market timing.

Regulators also are going after money managers that engaged in a related activity: letting big investors place orders to trade fund shares after 4 p.m. Allowing late trading lets favored investors profit from earnings announcements and other events occurring after the market closes, the SEC says.

Meanwhile, VA issuers also have to cope with regulators interest in other aspects of the VA business.