Treasurer's Firm Under Investigation

The mutual fund firm headed by Harvard’s newly-appointed treasurer is under investigation by the Securities and Exchange Commission (SEC).

Capital Research and Management Company, which manages the $450 billion American Funds mutual fund group, is the focus of an SEC inquiry into possible illegal directed brokerage practices.

James F. Rothenberg ’68, the president of Capital Research, officially assumed his office as University treasurer yesterday.

Rothenberg is presently on vacation overseas and could not be reached for comment, said American Funds spokesperson Chuck Freadhoff.

Freadhoff said Capital Research was cooperating with federal and state requests for information.

“We have made public the fact that there are numerous inquiries from many regulatory agencies at the state and federal level, which would include the SEC,” Freadhoff said. “We are fully cooperating.”

SEC policy is to neither confirm nor deny inquiries about ongoing investigations, according to SEC spokesperson John Nester.

Harvard spokesperson Joe Wrinn wrote in an e-mail on Wednesday that the University was aware of the SEC investigation into Capital Research, but that “numerous other mutual fund companies” were also facing SEC scrutiny.

Wrinn added that Rothenberg’s status as Harvard’s treasurer is secure.

“Jim Rothenberg assumes his role as Harvard’s Treasurer on July 1, and we look forward to the benefit of his service,” he said.

Freadhoff said Harvard has known about the investigation into Capital Research for several months and has not wavered in its desire to retain Rothenberg’s services.

“There is no reason for [Rothenberg] to alter his willingness to serve on that position,” Freadhoff said. “He is still anxious to lend his time to the University.”

University President Lawrence H. Summers could not be reached for comment.

In addition to serving as treasurer—a volunteer position at Harvard—Rothenberg, who is also a Harvard Business School graduate, will serve as one of the seven members of the Harvard Corporation and as an ex officio member of the Board of Overseers. He will also be the chair of the board of directors of the Harvard Management Company, which manages the University’s endowment.

The SEC is reportedly investigating directed brokerage at Capital Research. Directed brokerage occurs when a mutual fund pays a brokerage firm—which completes stock and bond trades for the mutual fund—extra money so that the brokerage firm increases advertising efforts for the mutual fund, Nester said.

“The brokerage might say to the fund, ‘If you transact those shares with our company, we might put extra muscle into advertising your fund,’” Nester said.

Nester said directed brokerage is intended to increase the mutual fund firm’s profit by attracting new customers—at investors’ expense.

Directed brokerage is legal if the customer is aware that it is taking place and understands and consents to the process, said Nester. The process becomes illegal if the customer is unaware of how the fund money is being spent.

“The fund holder has a right to know that his or her funds are being used for marketing purposes,” Nester said.

The SEC launched an industry-wide investigation of mutual fund sales in November 2003, and Morgan Stanley Dean Witter and Massachusetts Financial Services have been fined $50 million each for undisclosed directed brokerage.

Nester said the SEC aims to change its rules in the near future to make any directed brokerage arrangement illegal.

Capital Research engaged in directed brokerage—a practice American Funds said was “consistent” with SEC regulations—until recently, when it halted the practice to conform with the proposed SEC rule change, according to a statement on its website.

—Staff writer Alan J. Tabak can be reached at tabak@fas.harvard.edu.