PIMCO fined $20m for ETF ‘odd lots’ disclosure failure
02 December 2016 Washington DC
Image: Shutterstock
Investment management firm Pacific Investment Management Company (PIMCO) has been fined $20 million by the US Securities and Exchange Commission (SEC) for misleading investors about the performance of one its first actively managed exchange-traded funds (ETFs).
According to the SEC, PIMCO failed to accurately value small positions relating to 43 non-agency mortgage-backed securities through its total return ETF, BOND, during the first four months of trading after its launch in February 2012.
The fund’s strong early performance attracted significant investor attention as it outperformed PIMCO’s flagship mutual fund in its first four months through its ‘odd lots’ strategy, which involved buying smaller-sized bonds to help bolster performance out of the gate.
The SEC argued that “the resulting performance from the odd lots strategy was not sustainable as the fund grew in size”, but that this fact was not disclosed accurately monthly and annual reports to investors.
Following the investigation, the SEC stated in its order conclusion: “PIMCO valued these bonds using prices provided by a third-party pricing vendor for round lots, which are larger-sized bonds compared to odd lots.”
“By blindly relying on the vendor’s price for round lots without any reasonable basis to believe it accurately reflected what the fund would receive if it sold the odd lots, PIMCO overstated the total return ETF’s net asset value by as much as 31 cents.”
Andrew Ceresney, director of the SEC’s division of enforcement, said: “PIMCO misled investors about the true long-term impact of its odd lot strategy and denied them the opportunity to make fully informed investment decisions about the total return ETF.”
“Investment advisers must accurately describe the significant sources of performance and the strategies being used.”
During the period, the BOND ETF in question was managed by PIMCO’s controversial co-founder and former co-chief investment officer William Gross. According to multiple reports, Gross resigned abruptly in September 2014 by leaving a brief note addressed to the CEO in the middle of the night.
Gross is now embroiled in a civil lawsuit with PIMCO, in which he is demanding $200 million in damages and claiming he was forced out by colleagues looking to further their own careers.
Following the ruling on the Bond ETF, PIMCO agreed to be censured and consented to the SEC’s order without admitting or denying the findings that the firm violated Sections 206(2) and 206(4) of the Investment Advisers Act of 1940, Rules 206(4)-7 and 206(4)-8, and Section 34(b) of the Investment Company Act of 1940.
In a statement on the ruling, PIMCO said: “PIMCO is pleased to have resolved the BOND ETF matter with the SEC. PIMCO is committed to conducting its business in a manner that meets or exceeds the expectations of its regulators.”
PIMCO, which was acquired by Allianz in 2000, agreed to pay disgorgement of fees totalling $1.33 million, plus interest of $198,179 and a penalty of $18.3 million.
PIMCO said: “PIMCO is pleased to have resolved the BOND ETF matter with the SEC. PIMCO is committed to conducting its business in a manner that meets or exceeds the expectations of its regulators.”
PIMCO has also revised its policies and procedures concerning the pricing of smaller-sized positions through quantitative data studies of sale transactions to evaluate the use of vendor prices, and implemented new processes to identify and disclose unusual sources of performance.
According to the SEC, PIMCO failed to accurately value small positions relating to 43 non-agency mortgage-backed securities through its total return ETF, BOND, during the first four months of trading after its launch in February 2012.
The fund’s strong early performance attracted significant investor attention as it outperformed PIMCO’s flagship mutual fund in its first four months through its ‘odd lots’ strategy, which involved buying smaller-sized bonds to help bolster performance out of the gate.
The SEC argued that “the resulting performance from the odd lots strategy was not sustainable as the fund grew in size”, but that this fact was not disclosed accurately monthly and annual reports to investors.
Following the investigation, the SEC stated in its order conclusion: “PIMCO valued these bonds using prices provided by a third-party pricing vendor for round lots, which are larger-sized bonds compared to odd lots.”
“By blindly relying on the vendor’s price for round lots without any reasonable basis to believe it accurately reflected what the fund would receive if it sold the odd lots, PIMCO overstated the total return ETF’s net asset value by as much as 31 cents.”
Andrew Ceresney, director of the SEC’s division of enforcement, said: “PIMCO misled investors about the true long-term impact of its odd lot strategy and denied them the opportunity to make fully informed investment decisions about the total return ETF.”
“Investment advisers must accurately describe the significant sources of performance and the strategies being used.”
During the period, the BOND ETF in question was managed by PIMCO’s controversial co-founder and former co-chief investment officer William Gross. According to multiple reports, Gross resigned abruptly in September 2014 by leaving a brief note addressed to the CEO in the middle of the night.
Gross is now embroiled in a civil lawsuit with PIMCO, in which he is demanding $200 million in damages and claiming he was forced out by colleagues looking to further their own careers.
Following the ruling on the Bond ETF, PIMCO agreed to be censured and consented to the SEC’s order without admitting or denying the findings that the firm violated Sections 206(2) and 206(4) of the Investment Advisers Act of 1940, Rules 206(4)-7 and 206(4)-8, and Section 34(b) of the Investment Company Act of 1940.
In a statement on the ruling, PIMCO said: “PIMCO is pleased to have resolved the BOND ETF matter with the SEC. PIMCO is committed to conducting its business in a manner that meets or exceeds the expectations of its regulators.”
PIMCO, which was acquired by Allianz in 2000, agreed to pay disgorgement of fees totalling $1.33 million, plus interest of $198,179 and a penalty of $18.3 million.
PIMCO said: “PIMCO is pleased to have resolved the BOND ETF matter with the SEC. PIMCO is committed to conducting its business in a manner that meets or exceeds the expectations of its regulators.”
PIMCO has also revised its policies and procedures concerning the pricing of smaller-sized positions through quantitative data studies of sale transactions to evaluate the use of vendor prices, and implemented new processes to identify and disclose unusual sources of performance.
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