[17059]
February 4, 2004
TO: SEC RULES MEMBERS No. 15-04
SMALL FUNDS MEMBERS No. 9-04
UNIT INVESTMENT TRUST MEMBERS No. 4-04
PENSION MEMBERS No. 8-04
OPERATIONS MEMBERS No. 8-04
BROKER/DEALER ADVISORY COMMITTEE No. 4-04
TECHNOLOGY ADVISORY COMMITTEE No. 3-04
RE: NASD SUBMITS REPORT OF THE OMNIBUS ACCOUNT TASK FORCE MEMBERS TO
THE SEC
On January 30th, the NASD submitted to the SEC the Report of the Omnibus Account Task
Force Members (the “Report”).1 This Report resulted from a request of the Securities and
Exchange Commission that the NASD convene a working group of industry experts to consider
how imposition of a mandatory redemption fee on short-term trades may impact mutual fund
omnibus accounts. In response to the Commission’s request, the NASD produced its Report
that, in lieu of providing the Commission specific recommendations, instead discusses the
various points of view of members of the Task Force on the issues its considered. The Report is
briefly summarized below.
I. VIEWS OF THE TASK FORCE MEMBERS
With respect to omnibus accounts, the Task Force members were of the view that
abusive short-term trading could be addressed through a combination of (1) a mandatory
redemption fee assessed on each account that engages in short-term trading (as defined by the
SEC) with no attempt to match a shareholder’s purchases/redemptions through multiple
intermediaries and (2) periodic reports containing shareholder-specific information (including
taxpayer identification numbers (“TINS”)) that would be provided to a fund or its transfer
agent by an intermediary.2
1 A copy of the Report is expected to be posted on the NASD’s website, www.nasdr.com, within the next few days.
2 According to the Report, some Task Force members were of the view that, in addition to or instead of redemption
fees, the Commission “should consider fair value pricing and other trading restrictions, such as a limit on the number
of exchanges, as a (sic) means to address abusive short-term trading.”
2
• Mandatory Redemption Fees – Members of the Task Force observed that, absent a
sufficiently long holding period – suggestions included 1-5 business days and 60-90
days, with other Task Force members expressing the view that a lengthy holding period
is unnecessary – redemption fees, alone, would not be sufficient to deter short-term
trading. Most Task Force Members also believed that there is no need to impose
redemption fees on a cross-intermediary basis if funds are given information that
enables them to assess a shareholder’s trading across accounts and intermediaries and
eject shareholders that engage in abusive short-term trading. Task Force members
“generally agreed” that the SEC should establish a threshold amount for the imposition
of a redemption fee (e.g., if the fee would be more than $50). The Task Force also noted
that, if the intermediary assessed the fee at the time of the trade, this would eliminate the
need to collect the fee from the investor at a later time. The Task Force members
“strongly” agreed that the SEC should establish clear guidelines as to whether the fee
should be assessed on a LIFO or FIFO basis, and the length of the holding fee that
should trigger the fee.
• Periodic Reports to Fund Transfer Agents – While members of the Task Force were of
the view that, “with a lengthy holding period, provision of further information to the
fund does not appear necessary to deter market timing activity,” “many” members of
the Task Force favored requiring intermediaries to provide funds or their designated
transfer agent with periodic reports concerning, or access to, customer transactions
effective through the intermediary’s omnibus account, together with the customer’s TIN,
so the fund could match trades through different intermediaries.3 This information is
“desirable” to enable a fund to audit intermediary performance in assessing redemption
fees and review and analyze fund trading on a comprehensive basis. If provided this
information, funds would be required to review the reports, identify trading that
violates a fund’s policies on timing, and take action to prevent the shareholder from
effecting any further transactions with the fund.
Several Task Force members also supported the creation of a centralized means by
which fund transfer agents or intermediaries could report and share the TINs of shareholders
who have been denied trading privileges with a fund based on abusive short-term trading
practices.
II. METHODS TO ENHANCE THE TRANSPARENCY OF FUND TRANSACTION INFORMATION
The Task Force discussed the following various options for transmitting information to a
fund’s transfer agent so the transfer agent could monitor the shareholder’s trading with the
fund through one or more accounts or intermediaries.
1. Option Providing Full Transparency
The one option considered by the Task Force that would provide the fund full
transparency regarding customer transactions would involve a fund intermediary transmitting
3 The Task Force noted that some large fund transfer agents have software, “that is currently used to enhance
breakpoint discounts by identifying account linkage opportunities” and that might be modified to facilitate matching
of purchases and redemptions. Also, broker-dealers using NSCC’s Networking Level 4, as a general matter, already
transmit TINs to fund transfer agents without incurring significant costs.
3
daily to the transfer agent the customer’s TIN and, perhaps, other account title information (e.g.,
customer name and address). This option would: (i) better enable funds to identify individuals
who engage in abusive short-term trading through multiple accounts; (ii) if redemption fees are
imposed, better enable the fund or its transfer agent to oversee the appropriate imposition of
such fees; and, (iii) enable funds to employ tools in addition to redemption fees (e.g., exchange
limitations) to police against short-term trading abuses. While some broker-dealers apparently
expressed concern that this option would result in intermediaries having to share proprietary
information with funds, the Report notes that this concern could be mitigated through
confidentiality agreements that limit the use of information concerning beneficial owners.
While this approach would be more comprehensive than other alternatives considered by the
Task Force, it would not be fully comprehensive because an individual could trade through
accounts with different TINs. Also, some Task Force members were concerned that this option
would be cost prohibitive because of the number of trades and accounts for which data would
have to be transmitted.4
2. Options Providing Partial Transparency
The Task Force discussed four options that would provide partial transparency to
omnibus trades. These four, and the issues they raise, are:
• Periodic Reporting of Transaction Information – Under this alternative, intermediaries
could be directed to provide fund transfer agents with data on transactions (e.g., TINs,
names, etc.) on a periodic basis (e.g., semi-weekly, weekly, monthly). This alternative
would require the transmission of the same information as under the full transparency
model, but on a less frequent basis. A disadvantage of this approach would be the delay
between the time of the trade and the time the information is provided to the transfer
agent.
• Requiring Full Transparency but Excepting Certain Accounts – This option, which is a
variant of the full transparency model discussed above, would require full transparency
but with certain accounts carved out (e.g., smaller trades,5 periodic purchase plan trades,
regular retirement plan contributions, etc.). By eliminating transactions that present
little danger of abuse, this approach would allow firms to focus compliance on higher-
risk events. Some Task Force members were concerned, however, that (1) exempting
certain accounts might add to the complexity of the undertaking, and (2) it would be
difficult to determine which accounts should be exempted.
• Requiring Intermediaries to Provide Account-Specific Information to Fund Transfer
Agents – This approach would require the intermediary to provide account-specific
(rather than customer-specific) information to the fund’s transfer agent. So, for example,
the fund’s transfer agent might receive “some type of intermediary-specific identifier for
each account’s transaction with a fund, such as a Broker Identification Number (BIN).”
4 Information supplied by Task Force members indicates that in excess of 100 million investor accounts are held “in
the omnibus environment.”
5 According to one member of the Task Force, market timers often trade anywhere from $10,000 to $1 million in a
single trade. The carve out could be for trades below a similar threshold.
4
According to the Task Force, however, this “does not appear to be a viable approach”
because it would not give funds a complete picture of a shareholder’s trading activities
in that (1) it would not permit the identification of market timing carried out through
multiple accounts within a single intermediary unless the intermediary uses an
identification system that links all accounts of a single beneficial owner, and (2) it would
not allow funds to assess a shareholder’s activities across intermediaries.
• Delegating Responsibility – The third partial transparency approach considered by the
Task Force would involve mutual funds being required either to: (1) obtain all data
necessary to police against market timing abuses; or (2) enter into agreements under
which this obligation could be delegated to intermediaries. The Task Force Report notes
that, while delegation of responsibilities would eliminate costs and concerns with
sharing proprietary information, splitting compliance efforts among various
intermediaries and fund complexes “likely will complicate both industry efforts and
regulatory oversight.” Also, this approach may not capture all trading by those
investors that place orders through multiple intermediaries.
Tamara K. Salmon
Senior Associate Counsel