Large Fund Firm Lacked Pre-Trade Oversight, Violated Fund-of Funds Rules (In re Franklin Resources; 7/6/20)
A large mutual fund manager reimbursed investors and was fined for exceeding the fund-of-funds investing limitations. Affiliated funds in the aggregate purchased more than 3% of the outstanding securities of several non-affiliated ETFs, in violation of Section 12 of the Investment Company Act, which limits fund-of-fund investing to prevent layering. The compliance department caught the violations after they occurred, but the SEC faults the fund sponsor for failing to implement a pre-trade screening process. The SEC also censured the firm for offsetting investor losses with investor gains from the same violations and for failing to fully inform the Board.
The most common recommendation we make is to implement a pre-trade screening mechanism, rather than rely solely on the portfolio managers. We have seen large firms implement high-tech technology solutions and smaller firms utilize low-tech procedures such as requiring a supervisory approval of every trade.