May 22, 1991
TO: MONEY MARKET MEMBERS - ONE PER COMPLEX NO. 10-91
SEC RULES MEMBERS NO. 32-91
RE: SEC CENSURES ADVISER TO MONEY MARKET FUND
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The SEC recently censured an investment adviser to a money
market fund for violations of provisions of the Investment
Company Act and the Investment Advisers Act. The adviser,
without admitting or denying wrongdoing, agreed to settle the
administrative proceeding.
The adviser purchased for the fund an interest in an
unrated master demand note issued by Drexel Burnham Lambert Inc.
At the time of purchase, Drexel's commercial paper, which the
adviser believed had the same characteristics as the note, was
rated A-2 by Standard & Poor's. Several months later, the rating
on Drexel's commercial paper was downgraded by the two agencies
that had rated it. Rule 2a-7 of the Investment Company Act, upon
which the fund relied to use amortized cost valuation, requires a
fund to dispose of an instrument that falls below "high quality"
(which, at the time of the alleged wrongdoing, was defined as the
two top ratings of the nationally recognized statistical rating
organizations), unless the fund's board of directors determines
that it would not be in the best interest of the fund to do so.
In this case, the fund did not dispose of the security, nor did
the board make the requisite determination. Continuing to use
amortized cost valuation, although the fund was not permitted to
do so since it did not comply with the conditions of Rule 2a-7,
resulted in a violation of Rule 22c-1 of the Act, which requires
a fund to sell, redeem or repurchase shares at current market
value (if market quotations are available).
The SEC also found that the adviser misled shareholders
about the fund's holdings in violation of Section 34(b) of the
Investment Company Act and Section 206(2) of the Investment
Advisers Act. To avoid having to list the Drexel note in the
fund's annual report, the adviser sold the note to a company
affiliated with the fund and bought it back on January 2, 1990.
That transaction also violated Section 17 of the Investment
Company Act, which prohibits certain companies affiliated with
the fund from purchasing and selling securities to and from the
fund while acting in a principal capacity.
A copy of the SEC order is attached.
Amy B.R. Lancellotta
Assistant General Counsel
Attachment