Ameriprise Settles with SEC

We're concerned about the recent news regarding Ameriprise Financial (formerly American Express Financial Corporation). The mutual fund scandal added yet another episode on Dec. 2, 2005, when Ameriprise settled market-timing charges with regulators by agreeing to pay $15 million in "disgorgement and civil penalties" to the Securities and Exchange Commission.

The newly spun-off Ameriprise has been under investigation for market-timing at some of its funds between January 2002 and August 2003, while it was still a part of American Express. Yet until the settlement this month, none of the AXP funds disclosed anything to their shareholders about the investigation. (Ameriprise now markets its funds under the RiverSource name.) The only disclosure--and it was extremely vague (more on this to follow)--was made in regulatory filings of American Express. These filings are for American Express stockholders and are not distributed to owners of the firm's funds.

The Upshot
According to the SEC document detailing the settlement, American Express Financial Corporation, advisor to the AXP funds, failed to prevent market-timing even after changing its prospectus language to expressly forbid the practice because it is detrimental to long-term fundholders.

Between January 2002 (when AEFC banished market-timing) and August 2002, the firm allowed approximately 20 shareholders to rapidly trade its funds, and between May 2002 and October 2003, one market-timer was allowed to time variable annuity products. Also, regulators found instances of market-timing through their 401(k) plans by the firm's own employees, which occurred due to AEFC's failure to implement processes designed to prevent such activity. An AEFC official, identified in the report only as "Director of Mutual Fund Products," explained some of these violations as efforts to provide "additional flexibility" to clients that had substantial assets within the fund lineup.

As part of the settlement, Ameriprise will make annual presentations before the funds' board of directors specifically about its policies and procedures to prevent market-timing. The firm will also hire an "independent distribution consultant" to determine how the penalty should be distributed among shareholders adversely affected at the market-timed funds.

The Impact
Though the scandal unearthed misdeeds at various other fund companies, AEFC's violations are serious enough. True, market-timing was more systematic at other fund companies. (Some firms' officials made deals with timers, in effect allowing rapid trading at some funds in exchange for "sticky assets" elsewhere within the firm.) And Ameriprise is getting off on easier terms than some scandal-implicated firms such as Janus (which settled for $225 million) and Federated ($100 million), which suggests that the SEC believed the abuses were not as egregious. But anytime a fund company fails to live up to a freshly minted prospectus and its officials start bending rules for selected clients, it indicates a distressing lack of oversight. Such instances must be taken seriously because of their potential for greater damage if they become more widespread.

Lack of Disclosure
The biggest strike against Ameriprise is the hushed tone it has maintained throughout this investigation, and that it is adopting even now. For example, instead of referring to the specific market-timing cases, an American Express corporate filing from March 2005 only says: "AEFA has received requests for information and has been contacted by regulatory authorities concerning its practices and is cooperating fully with these inquiries." All Ameriprise will say following the settlement is: "We are pleased to resolve these matters. Over the past few years, we have proactively enhanced our compliance policies to address them. It should be noted that the costs of these settlements were reserved for in prior quarters and will have no effect on the company's fourth quarter 2005 earnings."

That means shareholders never knew that their fund was under investigation, and they still don't know which RiverSource funds were timed. And all Ameriprise has said about the actions it has taken to remedy the lapses is (without naming any names) that it took disciplinary action against some employees, fired one official, and that no senior executives or fund managers were involved. In our discussions following the settlement, Ameriprise didn't even say when and how its senior executives found out about the violations.

It's clear from Ameriprise's statement that it is more eager to comfort shareholders in the company rather than address the concerns of fund investors. What's particularly unfortunate though, is that the funds' board of directors, the group that represents fundholders, has also not come forth with the much needed disclosures.

Morningstar's Reponse
Since the scandal broke, we have come down especially hard on those fund companies that compounded their ethical and oversight lapses by also doing a poor job of taking shareholders into confidence. In fact, we have suggested investors either not send their money to such shops or proceed with extreme caution. By disclosing practically nothing until the settlement, AEFC/Ameriprise has thus far escaped the intense scrutiny suffered by other scandal-affected shops. But now, we will subject Ameriprise to the same standard. Specifically, we will lower the firm's Stewardship Grade by cutting its Corporate Culture and Regulatory Issues scores. We will evaluate its funds individually, and Morningstar analysts will continue to remind in our fund reports investors about the regulatory lapses at RiverSource.

The firm has made in recent years some strides; it has progressed from abysmal performance of many of its funds to boasting some viable options in its lineup and some talented managers in its roster. But these recent developments have set Ameriprise back. It cannot hope to make a great brand out of RiverSource unless it adopts a much more open and shareholder-friendly attitude than it is currently demonstrating.