Exhibit 10.3

UNITED STATES OF AMERICA

Before the

SECURITIES AND EXCHANGE COMMISSION

SECURITIES EXCHANGE ACT OF 1934

Release No. 54371/August 28, 2006

ADMINISTRATIVE PROCEEDING

File No. 3-12400

 

In the Matter of

 

PRUDENTIAL EQUITY GROUP,

LLC, formerly known as

PRUDENTIAL SECURITIES, INC.,

 

Respondent.

  

 

ORDER INSTITUTING ADMINISTRATIVE

PROCEEDINGS, MAKING FINDINGS, AND

IMPOSING REMEDIAL SANCTIONS PURSUANT

TO SECTION 15(b) OF THE SECURITIES

EXCHANGE ACT OF 1934

I.

The Securities and Exchange Commission (“Commission”) deems it appropriate and
in the public interest that public administrative proceedings be, and hereby
are, instituted pursuant to Section 15(b) of the Securities Exchange Act of 1934
(“Exchange Act”) against Prudential Equity Group, LLC, formerly known as
Prudential Securities Inc. (“Respondent”).

II.

In anticipation of the institution of these proceedings, Respondent has
submitted an Offer of Settlement (the “Offer”) which the Commission has
determined to accept. Solely for the purpose of these proceedings and any other
proceedings brought by or on behalf of the Commission, or to which the
Commission is a party, and without admitting or denying the findings herein,
except as to the Commission’s jurisdiction over it and the subject matter of
these proceedings, Respondent consents to the entry of this Order Instituting
Administrative Proceedings, Making Findings, and Imposing Remedial Sanctions
Pursuant to Section 15(b) of the Securities Exchange Act of 1934 (the “Order”),
as set forth below.

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III.

On the basis of this Order and Respondent’s Offer, the Commission finds1 that:

A. Respondent

1. Prior to July 1, 2003, Prudential Securities Inc. (“PSI”) was an indirect
wholly owned broker-dealer subsidiary of Prudential Financial, Inc. (“Prudential
Financial”). Prudential Financial is a publicly-owned holding company, traded on
the New York Stock Exchange, whose operating subsidiaries provide a wide range
of insurance, investment management and other financial products and services to
retail and institutional customers including insurance brokers and investment
managers. On July 1, 2003, PSI transferred the assets relating to its U.S.
retail securities brokerage operations to a newly formed holding company, now
named Wachovia Securities Financial Holdings, LLC (“WSFH”). Prudential Financial
presently owns 38% of WSFH and Wachovia Corporation owns 62% of WSFH. Since
July 1, 2003, PSI’s former U.S. retail securities brokerage business has
operated as part of Wachovia Securities, LLC. Following the asset transfer, PSI
converted from a stock corporation into a limited liability company and was
renamed Prudential Equity Group, LLC (“PEG”). PEG is a broker-dealer registered
with the Commission pursuant to Section 15(b) of the Exchange Act and is a
member of the National Association of Securities Dealers and the New York Stock
Exchange. PEG provides equity research, sales and trading to domestic and
international institutional customers and is a successor entity to PSI.
Prudential Financial continues to own 100% of the equity interests in PEG.

B. Summary

2. This matter concerns a fraudulent market timing scheme perpetrated by PSI
registered representatives (collectively, the “Representatives”) whose business
involved market timing to defraud at least fifty mutual funds and their
long-term shareholders. Beginning in at least September 1999 and continuing
through at least June 2003 (the “Relevant Period”), the Representatives used
deceptive trading practices to conceal their identities, and those of their
customers, to evade mutual funds’ prospectus limitations on market timing. These
practices included the use of multiple broker identifying numbers (known as
Financial Advisor, or “FA” numbers) and multiple customer accounts; the use of
accounts coded as confidential in PSI’s systems; and the Representatives’ use of
“under the radar” trading to avoid notice by mutual funds. Typically, mutual
funds screened for market timing trades only above a designated dollar amount.
The practice of “under the radar” trading refers to the Representatives’
splitting of one trade into numerous smaller ones to avoid detection by mutual
funds.

 

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1 The findings herein are made pursuant to Respondent's Offer of Settlement and
are not binding on any other person or entity in this or any other proceeding.

 

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3. As early as the fourth quarter 1999, several mutual fund companies identified
the Representatives’ use of deceptive trading practices and notified PSI of the
Representatives’ conduct. In May 2002, PSI itself determined that its
top-producing registered representative used deceptive trading practices to
avoid notice by mutual funds. Throughout the Relevant Period, PSI received
hundreds of notices from mutual fund companies that identified the
Representatives’ conduct and asked the firm to take steps to curtail their
deceptive market timing practices.

4. Despite PSI’s increasing awareness of the Representatives’ fraudulent market
timing practices, the firm elected to continue the business of market timing.
Rather than discipline or sanction any of the Representatives or even curtail
their ability to open additional accounts for their market timing customers, PSI
failed to prevent their conduct from continuing and actually began to track the
Representatives’ gross revenues. In 2001, for example, the Representatives
generated more than $16 million in gross commission revenues for the firm, most
of which was in danger of being eliminated had the firm phased out market timing
at that time. Similarly, the Representatives generated approximately $23 million
in gross commission revenues in 2002, and continued to generate comparable
revenues throughout the Relevant Period.

5. PSI’s policies and procedures were ineffective in curtailing the
Representatives’ fraud and were largely not enforced. Even in situations where
PSI purportedly enforced any of these policies, PSI senior officers undermined
them by granting exceptions for PSI’s largest producing registered
representatives. Additionally, PSI repeatedly failed to deprive the
Representatives of their inappropriate use of hundreds of FA numbers, even
though the use of multiple FA numbers was the primary means by which the
Representatives carried out their fraud. PSI finally issued a market timing
policy in January 2003, but the firm did not fully enforce procedures in that
policy to curtail the Representatives’ scheme. PSI also failed to make and keep
required records concerning the Representatives’ trading practices. As a result
of the conduct described above, PSI violated the antifraud and books and records
provisions of the federal securities laws.

C. Background

6. Market timing includes frequent buying and selling of shares of the same
mutual fund or buying or selling of mutual fund shares in order to exploit
inefficiencies in mutual fund pricing. Though not illegal per se, market timing
can harm mutual fund shareholders because it can dilute the value of their
shares, if the market timer is exploiting pricing inefficiencies, or disrupt the
management of the mutual fund’s investment portfolio and can cause the targeted
mutual fund to incur costs borne by other shareholders to accommodate frequent
buying and selling of shares by the market timer.

7. Beginning in the late 1990s, many mutual funds determined that market timing

 

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harmed their long-term shareholders. As a result, they began to monitor market
timing in their funds’ shares and imposed restrictions on excessive trading.
Such restrictions limited the number of trades that an account holder could
place in a fund’s shares and often were set forth in the funds’ prospectuses.
Many funds monitored trading activity to detect any violations of these
prospectus limitations.

8. Most mutual funds received trade instructions from PSI through the National
Securities Clearing Corporation (“NSCC”). NSCC is a centralized trade clearance
and settlement system that linked the Representatives, PSI, and virtually all
mutual fund companies. To place trades that were transmitted through NSCC, the
Representatives were required to identify their FA number and a customer account
to mutual funds on trade tickets. PSI appended additional information to the
Representatives’ orders and transmitted the transactions through NSCC to the
mutual fund companies.

9. Some mutual funds screened for excessive short-term trading by reviewing FA
and customer account numbers that the Representatives transmitted to them via
NSCC. Some also monitored for excessive short-term trading by trade size and
principal amount and by the branch code attached to a trade.1 Typically, if a
fund concluded that a shareholder had violated its exchange limitations, the
fund would attempt to prevent, or “block” additional trades in a fund or fund
family by that shareholder. If a fund determined that a particular PSI
registered representative or shareholder had violated its exchange limitations,
the fund would send a “block letter” to PSI. Block letters varied but generally
notified PSI of the mutual fund’s intention to block the registered
representative’s or customer’s transaction and often asked PSI to take steps to
preclude a particular registered representative or customer account from
engaging in additional trades in a particular fund or fund family.

10. Because these mutual funds monitored for excessive trading by FA number
and/or customer account number, the Representatives altered their use of these
numbers to defraud these funds and the funds’ long-term shareholders. By
altering their use of these numbers, the Representatives tricked mutual fund
companies into accepting trades that the funds otherwise would have rejected.

D. The Representatives’ Deceptive Conduct

11. During the Relevant Period, the Representatives engaged in a fraudulent
scheme to circumvent blocks imposed by mutual funds on their trading privileges.
The Representatives’ scheme worked as follows. The Representatives’ customers,
typically hedge funds, asked the Representatives to purchase and sell mutual
funds on a short-term basis on their behalf. The

 

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2 PSI assigned branch codes to each of its retail branch offices. Branch codes
identified to mutual funds the PSI branch office from which a particular market
timing trade originated.

 

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Representatives, however, knew that mutual funds tracked their trades by FA
number and customer account number, and they knew that if they placed short-term
mutual fund trades for their customers using a single FA or account number, the
mutual funds would likely determine the number of trades was excessive and would
block any further trades by them.

12. The Representatives, therefore, devised a scheme to conduct their customers’
trading using dozens of customer accounts, often established under fictitious
names, and multiple FA numbers to make it difficult for mutual funds to identify
their customers’ market timing. When the mutual funds succeeded in blocking
certain FA numbers or customer accounts from further trading, the
Representatives then used other FA numbers and customer accounts that had not
yet been blocked to evade the funds’ restrictions and continue to trade.

a. The Boston Registered Representatives

13. For example, one group of PSI registered representatives based in its
Boston, Massachusetts branch office (the “Boston Representatives”) repeatedly
used these deceptive practices to defraud mutual funds throughout the Relevant
Period. The Boston Representatives consisted of a group of three PSI registered
representatives and several assistants. The group had five customers for whom it
placed market timing trades, each of whom acted on behalf of one or more hedge
funds. During the Relevant Period, PSI received approximately $8 million from
the Boston Representatives’ market timing activities, of which group members
received approximately $4.6 million. As a result of this business, the head of
the group quickly rose to become one of PSI’s top producers.

14. Many of the mutual funds in which the Boston Representatives traded screened
for market timing trades by FA and customer account numbers. Many fund companies
sent notices to PSI that complained that the group’s trades had violated
prospectus limitations. Some mutual funds announced steps they had taken to
preclude the Boston Representatives from further trading while others asked that
PSI take steps to block further trades by the group in the fund.

15. During the Relevant Period, the Boston Representatives used at least
thirteen FA numbers and hundreds of customer accounts (for what were, in
reality, only five customers) to circumvent these blocks and preclude new
blocks. The Boston Representatives’ use of these devices in connection with
market timing allowed group members to continue to place trades in funds that
had taken steps to preclude them from further trading. Their scheme created the
impression that transactions originated from many registered representatives and
represented many different customers. In fact, what appeared to the mutual funds
to be thousands of separate transactions submitted by many registered
representatives for many unrelated customers was actually a systematic pattern
of market timing by group members on behalf of their five hedge fund customers.

 

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b. The Garden City Representative

16. Another PSI registered representative based in its Liberty Plaza and Garden
City, New York branch offices (the “Garden City Representative”) used these same
deceptive practices to defraud mutual funds throughout the Relevant Period. The
Garden City Representative headed a team of registered representatives and
assistants, although he very rarely reported to work at any PSI location. He had
five customers for whom he placed market timing trades, each of whom acted on
behalf of one or more hedge funds. During the Relevant Period, PSI received
approximately $9.8 million from the Garden City Representative’s market timing
activities (of which the Garden City Representative received approximately $4.7
million). The Garden City Representative was the top producing registered
representative at PSI throughout the Relevant Period.

17. Like the Boston Representatives, the Garden City Representative traded in
mutual funds that screened for market timing by FA and customer account numbers.
During the Relevant Period, approximately fifty mutual funds complained to PSI
about the Garden City Representative’s trading activity. Many mutual funds
specifically identified to PSI his use of deceptive trading strategies to evade
blocks the fund companies had imposed.

18. To evade these blocks, the Garden City Representative maintained 49
different FA numbers and hundreds of customer account numbers (for what were, in
reality, only five customers). His use of these devices to market time created
the impression that the trades originated from many registered representatives
and many customers. By shifting trades from one FA number to another, or from
one customer account to another, the Garden City Representative concealed his
identity and was able to place trades in mutual funds where PSI previously had
blocked his trading under his other FA numbers and accounts.

c. The Special Accounts Representatives

19. Another group of PSI registered representatives based in a New York office
known within the firm as “Special Accounts” (the “Special Accounts
Representatives”) also used deceptive practices to defraud mutual funds
throughout the Relevant Period. The Special Accounts Representatives consisted
of a group of two PSI registered representatives and several assistants. The
group had three customers for which it placed market timing trades. During the
Relevant Period, PSI received gross revenue of approximately $6.5 million from
the Special Accounts Representatives’ market timing activities, of which group
members received approximately $2.5 million. As a result of this business, the
heads of the group quickly achieved membership in PSI’s Chairman’s Club, a
select group consisting of the largest producing registered representative
within the firm.

20. Like the Boston Representatives and the Garden City Representative, the
Special Accounts Representatives knew that most mutual funds identified
excessive trading by FA and customer account numbers. They also understood that
mutual funds screened for market timing by reviewing only those trades at or
exceeding certain dollar amounts. The Special Accounts

 

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Representatives used at least 20 FA numbers and hundreds of customer accounts
(for what were, in reality, only three customers) to avoid detection by mutual
funds. The Special Accounts Representatives also used “under the radar” trading
to disguise their customers’ trading in funds that previously had taken steps to
stop them. The Special Accounts Representatives’ use of these devices in
connection with market timing deceived mutual funds into accepting trades they
otherwise would have rejected. Like the Boston Representatives and the Garden
City Representative, their scheme perpetuated the impression that transactions
originated from many registered representatives and represented many different
customers.

E. PSI Failed to Prevent the Representatives From Obtaining Multiple Broker
Identifying and Customer Account Numbers

21. PSI failed to prevent the Representatives from obtaining several different
forms of broker identifying numbers. Consequently, the Representatives used
these numbers to perpetrate their scheme to defraud. When registered
representatives began their employment with PSI, PSI assigned them an FA number.
Registered representatives used FA numbers to open customer accounts, execute
trades, and track their commissions. When registered representatives worked as a
team to service common customers, PSI provided “Joint” numbers. Joint numbers
ostensibly represented a commission split between two or more registered
representatives. Here, the Representatives acquired and used Joint numbers for
improper purposes. The numbers were not used to split commissions, but rather to
facilitate the Representatives’ ability to trade after their other broker
identifying numbers had been blocked from trading. PSI also provided the
Representatives with “Also” numbers. The purported purpose of “Also” numbers was
to allow the Representatives’ customers to access only those portions of a given
registered representative’s portfolio that belonged to that customer or to
provide certain customers with commission discounts. The Representatives,
however, used Also numbers improperly in the same manner as they used FA and
Joint numbers – to circumvent blocks that had been imposed on their other FA
numbers. Indeed, at least one mutual fund became so frustrated by its inability
to identify the Representatives that it threatened to curtail the trading
privileges of all registered representatives within a PSI branch to remedy the
conduct.

22. Each of the Representatives maintained numerous FA, Joint, and Also numbers,
and used these numbers interchangeably to execute trades for their customers.
For example, the Boston Representatives used 13 broker identifying numbers to
place market timing trades and the Garden City Representative used 49 broker
identifying numbers. When one of the Representatives’ FA, Joint, or Also numbers
was blocked from trading by a particular mutual fund, he used another number
assigned to him to place the trade in that fund. Although each Joint number
ostensibly represented a unique commission split, in fact each team of
Representatives split commissions from mutual fund purchases according to a
single ratio, irrespective of which broker identifying number was used to enter
the trade.

23. PSI failed to prevent the Representatives from opening hundreds of customer
account numbers. The Representatives’ customers maintained multiple accounts
with PSI, many

 

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of which bore fictitious names that had no relation to the actual customer’s
name. The Representatives used these customer accounts interchangeably to
execute trades. When one customer account was blocked from trading by a
particular mutual fund, the Representatives substituted another account for that
same customer to place the trade for that customer, thereby creating the
appearance that the trade originated from another customer.

24. PSI failed to prevent the Representatives from obtaining accounts for their
customers that were coded as “Confidential.” Confidential accounts did not
identify the beneficial owner of the account on the transaction data provided to
the mutual funds. Although such a designation could have a legitimate purpose,
here the Representatives used confidential accounts improperly to impede the
mutual funds’ ability to identify which PSI registered representative or
customer was market timing their funds.

25. PSI also failed to prevent the Representatives from obtaining customer
account numbers with multiple branch identifiers. Typically, registered
representatives located in one PSI branch office had customer accounts that had
a prefix used to identify the branch location. Here, the Representatives
established accounts for their hedge fund customers using multiple branch codes,
which effectively impeded the mutual funds’ ability to identify the particular
PSI office location, as well as registered representative, that was market
timing their funds. The Representatives used branch identifiers improperly as
another mechanism to conceal their identities and the identities of their
customers to mutual funds.

F. PSI Received Notifications of the Representatives’ Deceptions

26. During the Relevant Period, mutual fund companies sent more than a thousand
letters and e-mails to PSI concerning market timing by the Representatives. Many
of these communications asked PSI to take steps to stop further trading by a
particular customer account or FA number. Others expressly notified PSI that the
Representatives used deceptive trading practices to continue placing market
timing trades.

27. High level officers of PSI were aware during the Relevant Period that mutual
funds were accusing the Representatives of using deceptive practices to evade
the mutual funds’ attempts to block the Representatives’ market timing trades.
For example, an individual who joined PSI in 1997 and rose to become the chief
administrator of PSI’s Private Client Group (“PCG”) in January 1999, then to
executive director of PCG in November 2000, and finally to president of PCG in
December 2002 (the “Senior Officer”), received repeated notices of wrongdoing by
the Representatives throughout the Relevant Period, but did not take adequate
steps to stop the Representatives’ fraud. Among other things, the Senior Officer
received the following indications that the Representatives were committing
fraud. In some cases, certain other senior managers or high level officers of
PSI also received notices that the Representatives were committing fraud.

28. On November 21, 1999, a senior executive in the PSI Mutual Fund Operations

 

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Division forwarded to the Senior Officer a string of e-mails concerning a
complaint from a mutual fund complex that the Garden City Representative had
evaded a block on two of his accounts by simply opening new accounts. Among
other things, the e-mail stated:

It appears that [the Garden City Representative] circumvented this restriction
by requesting new BIN [account] #s and fund accounts be established, funded by
transferring shares into these new accounts on 11/8/99. Subsequently on
11/10/99, an exchange out of the money fund into our stock funds was processed,
beginning market timing again.

The cover e-mail commented, “[T]his seems to be a serious matter that will only
get worse.”

29. On January 19, 2000, the manager of PSI’s Mutual Fund Operations Division
forwarded to the Senior Officer an e-mail from another mutual fund complex
complaining that a member of the Boston Representatives had evaded a trading
restriction by opening a new account, stating:

It appears that [the member] set up another account in December for the same
client we restricted on 11/22.

30. On March 30, 2001, the head of PCG risk management sent the Senior Officer
an e-mail that attached a letter from another mutual fund complex complaining
that “excessive trading activity” by PSI registered representatives in its
mutual funds “has become detrimental to both the funds and shareholders of the
funds involved.” The letter described the tactics used by PSI registered
representatives to avoid having their trades canceled as follows:

Since trade cancellation began on February 26th, 2001, we have noticed several
types of reactions by Prudential Financial Advisors in order to circumvent our
attempts to terminate excessive trading. Originally, your Financial Advisors
established new identification numbers so that they would not be recognized as a
repeat offender. Secondly, Financial Advisors would transfer a fund(s) position
from account to account, in order to disguise their identity. Lastly, your
Financial Advisors have attempted to reduce the dollar amount of the exchange
orders while simultaneously increasing the number of exchanges (in the same fund
and account) in the hopes of not being identified.

31. On June 28, 2001, the Senior Officer received an e-mail from the manager of
the Special Accounts branch warning him that the Special Accounts
Representatives were obtaining multiple FA numbers in order to conduct their
market timing, stating that:

We will have an issue soon with joint FA numbers: in order to get

 

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around the MF [mutual fund] timing issue they are starting to request 99/01
split numbers with their junior partners to help them get around being shut down
by some MF companies on timing.

32. On April 4, 2002, the manager of PSI’s Mutual Funds Operations division sent
an e-mail to other senior managers forwarding an e-mail from another mutual fund
complex complaining that certain PSI registered representatives were using
multiple accounts and FA numbers to evade restrictions on their market timing.
The e-mail stated:

What we have seen scares us. It appears certain representatives are changing
account registrations, tax id numbers, and branch and rep numbers in an effort
to time the [mutual fund complex’s] funds. All of these accounts have been
stopped, but each day “new” ones pop up.

When the PSI chief compliance officer saw the above e-mail, he showed it to the
Senior Officer. The head of PCG risk management also discussed the e-mail with
the Senior Officer.

33. On April 29, 2002, the Senior Officer met with an internal PSI working group
that had been analyzing market timing issues. The group described for the Senior
Officer the mutual fund companies’ restrictions on excessive trading, the fund
companies’ block letters to PSI, and the deceptive trading strategies used by
certain PSI registered representatives, including multiple accounts and FA
numbers.

34. On at least two occasions in May 2002, an employee of PSI’s risk management
division detailed for the Senior Officer several deceptive practices used by the
Garden City Representative. The employee’s analysis noted that in one 37-day
period, the Garden City Representative had 19 different mutual fund companies
request that accounts under the representative’s control, or the representative
as an FA, be blocked from their funds. The analysis concluded that the Garden
City Representative had circumvented these requests by changing his FA number to
an Also or Joint Number to avoid detection by the fund, or by changing customer
account numbers and moving the assets from the blocked account to a newly
established account.

35. On February 5, 2003, the director of strategic planning at PCG sent the
Senior Officer (then the President and most senior officer of PCG) a string of
e-mails from another mutual fund complex complaining that certain PSI registered
representatives were using multiple customer accounts and FA numbers for market
timing. One of the e-mails stated:

I have spoken to these reps a few times over the past several months about
stopping their timing activity to no avail. Over the past several months, we
have placed stops on 325 of their accounts as of 11/30/02 and continue to add
accounts daily. We see new

 

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accounts/rep id combinations being opened and have determined that we are not
able to continue chasing them within our funds. We feel our only course of
action to protect our fund shareholders is to prohibit the attached list of reps
from doing business with [our funds].

Another e-mail in the string stated:

These reps have multiple rep ids and have continued to add new ones as we block
the ids within the NSCC trading system for our fund complex . These reps created
close to $3 billion in exchanges last year with $75 million of assets during a
time in which we placed stops on 350 of their accounts.

The director of strategic planning added his own warning to the Senior Officer:

I just wanted to give you a heads up on an issue that is sure to reach your desk
in the next day or two. As you can see from the attached string of notes, the
senior leadership team at [a mutual fund complex] are completely frustrated with
some of the tactics/strategies of FA’s [the Garden City Representative and the
Boston Representatives]. Previous attempts to curtail timing activity in the
[mutual fund complex’s] funds by blocking account activity have been thwarted by
the establishment of additional FA numbers. It appears that [the mutual fund
complex] is now making overtures that continued activity of this nature will
threaten the relationship between Prudential and the fund company.

36. On February 11, 2003, a PCG risk officer sent an e-mail to the Senior
Officer (then the President and most senior officer of PCG) that forwarded an
e-mail from the Garden City branch manager about the Garden City
Representative’s market timing business. The branch manager questioned the
effectiveness of the Mutual Fund Operations Division’s internal blocking system
and raised several other concerns about the Garden City Representative’s
activities:

Blocking of individual accounts by fund companies is extremely short-sighted in
consideration of the fact that each “entity” maintains multiple accounts with
our Firm.

There have been repeat offenses, at least in spirit . . .

Fund companies have been misled as to the identity of the FA’s of record.
Recently, [a mutual fund company] was provided with information which was at
best misleading to effect the removal [of] a block.

 

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[T]here is frequent journaling of funds between accounts.

At the present time, [the Garden City Representative and an assistant] either
have or have had a total of 48 FA #s including single, joint and also numbers.

G. PSI’s Procedures to Limit Market Timing Were Ineffective

37. Although PSI senior officers issued policies and procedures ostensibly
designed to proscribe the Representatives’ conduct, these policies and
procedures were ineffective in scope and were never fully enforced. Moreover,
even in situations where these policies and procedures purportedly were
enforced, PSI senior officers undermined them by granting exceptions for its
largest producing registered representatives. As a result, the Representatives’
deceptions continued even after these policies and procedures were promulgated.

a. PSI’s June 2002 Procedure Concerning Issuance of FA Numbers

38. In June 2002, PSI instituted a procedure concerning the issuance of FA
numbers, in a purported effort to hinder the Representatives’ ability to obtain
“Joint” numbers and “Also” numbers to evade limitations on market timing (the
“June 2002 Procedure”). The June 2002 Procedure provided, simply, that requests
for “Joint” and “Also” numbers would require a documented business request and a
PSI Regional Business Manager’s approval. The June 2002 Procedure failed to
preclude the Representatives from misusing previously issued Joint and Also
numbers to evade blocks imposed by mutual fund companies nor did it preclude
them from obtaining new FA numbers to facilitate their fraud. Indeed, the Garden
City Representative obtained 12 new Joint and Also numbers just days before the
procedure took effect, purportedly to assist him in transferring customer
accounts from one PSI branch office to another. The June 2002 Procedure also did
not subject the Representatives to any form of discipline or sanction if they
continued to use Joint and Also numbers to evade blocks in violation of its
terms.

b. PSI’s January 2003 Market Timing Policy

39. After protracted discussion involving PSI senior officers during the Fall of
2002, PSI issued a market timing policy on January 8, 2003 (the “Market Timing
Policy”). PSI considered, and rejected, defining market timing in the Market
Timing Policy as a certain number of trades because of concerns that doing so
would have too great an impact on the Representatives’ revenues. PSI also
rejected an absolute prohibition on the business of market timing. Instead, the
Market Timing Policy provided that “inappropriate timing activities [would]
continue to be monitored” by mutual fund companies and not by PSI itself.

 

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40. Unlike other PSI policies concerning market timing, the Market Timing Policy
expressly provided for the imposition of sanctions, including termination of
employment, for the Representatives’ use of “manipulative techniques” to evade
mutual fund trading restrictions. Any imposition of sanctions was to be decided
by a committee consisting of members of PSI’s Legal, Compliance, and Risk
Management divisions. Despite notifications of continuing deceptive practices
received by PSI after it issued the Market Timing Policy, PSI did not form this
committee and failed to take action against any of the Representatives to stop
their use of “manipulative techniques” to market time.

41. The Market Timing Policy also provided that, in the event a mutual fund
company asked PSI to block any one of a registered representative’s FA numbers,
all numbers belonging to the registered representative similarly would be
blocked from trading. However, PSI senior officers determined not to implement
this critical aspect of the Market Timing Policy. In fact, despite the policy’s
clear language, PSI interpreted mutual fund block requests after it issued the
Market Timing Policy in the same manner as it had previously – as narrowly as
possible, blocking only the specific FA number or customer account number
identified by mutual fund block requests. Thus, even after issuance of the
Market Timing Policy, the Representatives were able to continue their fraudulent
scheme of switching to unblocked FA numbers or customer accounts to evade blocks
imposed by mutual fund companies.

H. PSI Profited From the Representatives’ Deceptive Acts

42. PSI identified the Representatives as early as 2000 and monitored their
revenues and ranks within the firm throughout the Relevant Period. The firm’s
Mutual Fund Operations Division, which processed the Representatives’ trades in
mutual funds, monitored the Representatives’ activity because their rapid
trading required the dedication of additional staff within the department to
process the trades and strained the firm’s trade processing and settlement
systems.

43. In 2000, PSI began to track each quarter the gross commission revenues
generated by the Representatives. PSI prepared these reports to determine the
amount of income that would possibly be reduced if the firm determined to
eliminate market timing as a business. In 2001, for example, the Representatives
generated more than $16 million in gross commission revenues for the firm, most
of which would have been eliminated had the firm phased out market timing at
that time. Similarly, the Representatives generated approximately $23 million in
gross commission revenues for 2002, and received another $10 million in gross
commission revenues during the first half of 2003.

44. As PSI senior officers became increasingly aware of the Representatives’ use
of deceptions, the firm elected to continue the business of market timing.
Indeed, some of the firm’s senior officers were aware that the June 2002
Procedure concerning the issuance of multiple FA numbers and the January 2003
Market Timing Policy were wholly ineffective at

 

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eradicating the Representatives’ deceptions and the Representatives and their
hedge fund customers continued this activity. During the Relevant Period, the
Representatives generated approximately $50 million in gross revenues as a
result of this conduct.

I. PSI Failed to Make and Keep Required Books and Records

45. PSI was required to make and keep current trade orders and trade tickets
concerning the Representatives’ mutual fund trading. PSI also was required to
make and keep current a trade blotter that reflected the Representatives’ mutual
fund trading. During the relevant period, PSI failed to maintain these required
books and records, and, in instances where PSI did maintain these items, they
did not give the actual time at which the orders were received or the time of
entry.

J. Violations of the Antifraud and Books and Records Provisions of the Federal
Securities Laws

46. As a result of the conduct described above, PSI willfully violated
Section 17(a) of the Securities Act of 1933, which prohibits fraudulent conduct
in the offer or sale of securities.

47. As a result of the conduct described above, PSI also willfully violated
Section 10(b) of the Exchange Act and Rule 10b-5 thereunder, which prohibit
fraudulent conduct in connection with the purchase or sale of securities.

48. PSI also willfully violated Section 17(a) of the Exchange Act and Rules
17a-3 and 17a-4 thereunder. Section 17(a) of the Exchange Act and Rules 17a-3
and 17a-4 thereunder required PSI to make and keep certain books and records
relating to its business, including trade blotters and trade tickets related to
mutual fund trading. Implicit in the Commission’s recordkeeping rules is a
requirement that information contained in a required book or record be accurate.
PSI failed to maintain complete and current copies of trade blotters concerning
mutual fund trading and trade tickets related to mutual fund trading in a
readily accessible place. In instances where PSI did maintain trade tickets,
information included on them did not represent the actual time at which the
orders were placed.

K. Undertakings

In determining whether to accept the Offer, the Commission has considered these
undertakings:

49. Cooperation. Respondent shall cooperate fully with the staff of the
Commission in any litigation, ongoing investigation, or other proceedings
relating to or arising from the matters described in the This Order. In
connection with such cooperation, Respondent has undertaken:

 

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  a. to produce promptly, without service of a notice or subpoena, any and all
documents and other information requested by the Commission’s staff in
Respondent’s possession and control;

 

  b. to use its best efforts to cause its employees to be interviewed by the
Commission’s staff at such times as the Commission may reasonably request; and

 

  c. to use its best efforts to cause its employees to appear and testify
truthfully and completely without service of a notice or subpoena in such
investigations, depositions, hearing or trials as the Commission’s staff
reasonably may request; and that in connection with any testimony of Respondent
to be conducted at deposition, hearing, or trial pursuant to a notice or
subpoena, Respondent

 

  i. agrees that any such notice or subpoena for Respondent’s appearance and
testimony may be served by regular mail on its attorney:

Bingham McCutchen LLP

Attn: Neal E. Sullivan, Esq.

2020 K Street, N.W.

Washington, DC 20006; and

 

  ii. Agrees that any such notice or subpoena for Respondent’s appearance and
testimony in an action pending in a United States District Court may be served,
and may require testimony, beyond the territorial limits imposed by the Federal
Rules of Civil Procedure.

50. Independent Distribution Consultant. Respondent shall retain, within 60 days
of the entry of this Order, the services of an independent distribution
consultant (“Independent Distribution Consultant”) acceptable to the staff of
the Commission.

a. Respondent shall be responsible for all costs and expenses associated with
the development and implementation of the Distribution Plan for the distribution
of the disgorgement ordered in Section IV.B. of this Order. Such costs and
expenses shall include, without limitation (i) the compensation of a tax
administrator for the preparation of tax returns and/or for seeking any IRS
rulings; (ii) the payment of taxes; and (iii) the payment of any distribution or
consulting services as may be reasonably required by the Independent
Distribution Consultant. Respondent shall cooperate with the tax administrator
to see that all tax payments are timely made, and all such tax payments shall be
deposited in the Qualified Settlement Fund upon notice from the tax
administrator concerning the amount and the deadline for payment.

b. Respondent shall cooperate fully with the Independent Distribution Consultant
to provide all information requested for its review, including providing access
to its files, books, records, and personnel.

 

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c. The Independent Distribution Consultant shall develop a proposed Distribution
Plan for the distribution of the disgorgement ordered in Section IV.B. of this
Order, and any interest or earnings thereon, according to a methodology
developed in consultation with and acceptable to the staff of the Commission.

d. The Independent Distribution Consultant shall submit to Respondent and the
staff of the Commission the proposed Distribution Plan no more than 180 days
after the entry of this Order.

e. The proposed Distribution Plan developed by the Independent Distribution
Consultant shall be binding unless, within 210 days after the date of entry of
this Order, Respondent or the staff of the Commission advises, in writing, the
Independent Distribution Consultant of any determination or calculation from the
Distribution Plan that it considers to be inappropriate and states in writing
the reasons for considering such determination or calculation inappropriate.

f. With respect to any calculation with which Respondent or the staff of the
Commission do not agree, such parties shall attempt in good faith to reach an
agreement within 240 days of the entry of this Order. In the event that
Respondent and the staff of the Commission are unable to agree on an alternative
determination or calculation, the determinations of the Independent Distribution
Consultant shall be included in the proposed Distribution Plan.

g. Within 285 days of the date of entry of this Order, the Independent
Distribution Consultant shall submit the proposed Distribution Plan for the
administration and distribution of disgorgement funds pursuant to the
Commission’s Rules on Fair Fund and Disgorgement Plans, 17 C.F.R. § 201.1100, et
seq., (Rule 1100 through Rule 1106). Following a Commission order approving a
final plan of distribution, as provided in Rule 1104 [17 C.F.R. § 201.1104] of
the SEC’s Rules on Fair Fund and Disgorgement Plans, the Independent
Distribution Consultant shall take all necessary and appropriate steps to
administer the final plan for distribution of disgorgement funds in accordance
with the terms of the approved Distribution Plan.

h. For the period of the engagement and for a period of two years from
completion of the engagement, the Independent Distribution Consultant shall not
enter into any employment, consultant, attorney-client, auditing, or other
professional relationship with Respondent, or any of its present or former
affiliates, directors, officers, employees, or agents acting in their capacity
as such. Any firm with which the Independent Distribution Consultant is
affiliated in performance of his or her duties under this Order, or of which
he/she is a member, and any person engaged to assist the Independent
Distribution Consultant in the performance of his/her duties under this Order,
shall not, without prior written consent of the staff of the Commission, enter
into any employment, consultant, attorney-client, auditing or other professional
relationship with Respondent, or any of Respondent’s present or former
affiliates, directors, officers, employees, or agents acting in the capacity as
such for the period of the engagement and for a period of two years after the
engagement.

 

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i. For good cause shown, the staff of the Commission may alter any of the
procedural deadlines set forth above. .

IV.

In view of the foregoing, the Commission deems it appropriate and in the public
interest to impose the sanctions agreed to in Respondent’s Offer.

Accordingly, pursuant to Section 15(b) of the Exchange Act, it is hereby ORDERED
that:

A. Respondent is hereby censured.

B. Respondent shall, within 10 days of the entry of this Order, pay disgorgement
of $270 million to the Securities and Exchange Commission. Such payment shall
be: (A) made by wire transfer, United States postal money order, certified
check, bank cashier’s check or bank money order; (B) made payable to the
Securities and Exchange Commission; (C) wired, hand-delivered, or mailed to the
Office of Financial Management, Securities and Exchange Commission, Operations
Center, 6432 General Green Way, Stop 0-3, Alexandria, VA 22312; and
(D) submitted under cover letter that identifies PSI as a Respondent in these
proceedings, the file number of these proceedings, a copy of which cover letter,
wire transfer instruction, money order, or check shall be sent to David P.
Bergers, District Administrator, Securities and Exchange Commission, Boston
District Office, 33 Arch Street, 23rd Floor, Boston, Massachusetts 02110.

C. Respondent shall comply with the undertakings enumerated in Section III.,
paragraph 50 of this Order.

By the Commission.

 

Nancy M. Morris Secretary

 

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