Legg Mason Wood Walker Inc., the Baltimore-based brokerage, yesterday agreed to pay $1 million to settle regulators' findings that it allowed improper late trading in mutual fund shares and failed to keep required trading records.
The improper trading was the result of faulty systems rather than a deliberate effort to game the system, the Securities and Exchange Commission said in an administrative order.
Legg Mason "corrected its systems deficiencies as soon as they were identified and cooperated fully with the SEC in connection with this matter," said Jeffrey Bukowski, a spokesman for the company. The brokerage neither admitted nor denied wrongdoing.
The settlement is one of the smaller ones to emerge from a review of mutual fund trading practices by state and federal regulators in which financial services firms and executives have paid settlements totaling about $3 billion in recent years. The SEC alleged that from 1997 through the fall of 2003, Legg Mason put through purchases and sales of mutual fund shares after hours, potentially enabling some investors to profit at the expense of others based on prices that did not reflect the latest market developments.
Unlike stocks, which trade throughout the day at prices that are constantly updated, shares in mutual funds -- which hold investments in many companies -- are typically priced at 4 p.m. each day based on the value of the securities they hold at that time. Buy and sell orders placed during the day are supposed to be processed using the end-of-day value.
Legg Mason allegedly gave investors the 4 p.m. price on trades submitted as late as 5:30 p.m., instead of the next day's price.
The so-called late trading involved more than 18,000 of the 1.7 million mutual fund transactions Legg Mason processed from Sept. 1, 2002, through Oct. 19, 2003, the SEC administrative order said. Some of the late trades involved shares of Legg Mason mutual funds, said David S. Horowitz, an assistant district administrator in the SEC's Philadelphia office.
Supervisors in Legg Mason's mutual fund operation processed orders "after 4 p.m., without regard for the time the orders were placed," the SEC order said.
For more than five years, Legg Mason failed to recognize the system flaws that made the late trading possible, the SEC alleged. For example, if brokers opened computer screens before 4 p.m., they could hold the screens open and use them to process orders until 5:30.
Legg Mason discovered the problems after the SEC asked large brokerages for information about their mutual fund trading practices in 2003. The agency sought information on three years of trades, but Legg Mason had kept records of order-entry times going back only about a year, in violation of SEC rules, the agency alleged.
"The late processed trades were not the product of any formal or informal agreement" between the firm and its customers or any "scheme to exploit" the system weaknesses, the order said.
Legg Mason has not disciplined any employees over the alleged violations, said a source at the brokerage, who spoke on condition of anonymity because personnel matters are confidential.