Where the Buck Stops: B of A Says It Will Seek Compensation from Other Funds

Mr. Sihpol executed mutual fund trades on behalf of Canary and later helped Canary install an automatic system so the hedge fund more easily could execute its mutual fund trades, according to the attorney general’s complaint against Mr. Sihpol.

Canary traders would call Mr. Sihpol and read him a list of proposed mutual fund trades for a given day. Although Mr. Sihpol filled out trade tickets for each proposed trade and gave the trades time stamps, he would not place them right away. Instead he waited until after 4 p.m. ET, when he received a phone call from a Canary representative telling him which of the proposed trades Canary wanted executed. Mr. Sihpol would then submit the appropriate trade tickets. Although the tickets were submitted after 4 p.m., they had a pre-4 p.m. time stamp.

Mr. Spitzer’s office charged that this amounted to late trading–in effect, trading mutual fund shares at yesterday’s price with tomorrow’s information because mutual fund share prices are set at 4 p.m. ET each day. Late trading is illegal.

Mr. Spitzer likened late trading of mutual fund shares to betting on a horse race after the horses had crossed the finish line.

The automatic system Mr. Sihpol helped install at Canary allowed the hedge fund to trade mutual fund shares at the 4 p.m. cutoff price until 6:30 p.m. ET, according to a complaint filed by Mr. Spitzer’s office against Canary. In return for timing capacity in B of A’s Nations Funds, Canary invested millions of dollars of long-term, or so-called “sticky” assets, in Bank of America bond funds, thus increasing the value of those funds and delivering more management fees to B of A managers, the complaint alleges.

And Canary also used Bank of America’s broker-dealer clearing service, as well as one run by Security Trust Co. NA, Phoenix, to conduct market timing of mutual fund shares. Market timing is not illegal, but the quick in-and-out trades of mutual fund shares to take advantage of price movements are thought to hurt long-term investors by passing on the costs of the trades to long-term shareholders and sapping performance. B of A earned money from the processing of Canary trades.

In its complaint against Canary, Mr. Spitzer’s office characterized Canary’s late trading and market-timing relationship with Bank of America as the hedge fund’s “most extensive.” It included a US$300 million line of credit extended to Canary by B of A to finance late trading and market timing of Nations Funds.

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