It only took three years and a lot of bad press, but Charles Schwab has finally agreed to pay some of what investors lost when they put their money into the YieldPlus bond mutual fund, thinking it was going to be a safe place until the fund dropped 35% in 2008.
Schwab has agreed to pay $119 million to settle charges it misled investors about the fund’s risks but that only represents a faction of the billions of dollars the fund lost since 2007 when held $13.5 billion. According to Morningstar, the financial crisis and investor redemptions have since left the fund with just $147 million in assets.
Meanwhile, the Securities and Exchange Commission has filed a separate complaint in U.S. district court in San Francisco against two Schwab executives, alleging they made misleading statements about the fund.
The SEC said the payments will be placed in a Fair Fund for distribution to harmed investors and the related recoveries by other regulators such as FINRA may be contributed to the Fair Fund as well. The U.S. District Court for the Northern District of California will need to approve any payments.
The SEC sees the Schwab settlement as its latest victory as it ramps up enforcement actions in the wake of the financial crisis. As for Schwab, it was a major blow to the reputation of a firm that presents itself as being on the side of the investor.
Some financial advisors whose clients’ had assets in YieldPlus are saying they’re going to think twice about using the company’s fund managers. One, in an interview with Forbes magazine, said she was sitting in on their conference calls when the fund was eroding and they repeatedly kept saying that things would be okay. The advisor Penny Marlin, of Delray Beach, Florida, added that “a lot of people got burned. I had a lot of sleepless nights back then.”
Marlin told Forbes that her clients each individually lost thousands from YieldPlus. She also invested personally in the fund. She custodies all of her assets with Schwab Advisor Services and is happy with them as a custodian but will scrutinize their funds more closely.
Schwab is paying the $119 million to settle charges with the SEC, FINRA and Illinois regulators. All three groups determined that the company marketed the fund as a safe alternative to cash when in reality the fund’s investments were far riskier. For example, the fund had more than 25% invested in mortgage-backed securities.
In its statement, Schwab said the company worked closely with regulators to craft the resolution. Schwab said it would never seek to profit at the expense of its clients. Nor did the company admit to any wrongdoing.
The SEC is alleging that Schwab executive Kimon Daifotis, the former chief investment officer for fixed income, and Randall Merk, an executive vice president at Schwab, committed fraud and other securities law violations in connection with the offer, sale and management of the fund.
