Schwab settles SEC case over troubled YieldPlus fund for $119 million

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Three years after a supposedly safe bond fund plunged in value, Charles Schwab Corp. agreed Tuesday to pay $119 million to settle a government lawsuit accusing it of misleading investors about the risks.

Schwab aggressively marketed its YieldPlus bond fund (ticker: SWYSX) to retail clients as conservative but higher-yielding than money market funds. But the fund began sinking in early 2008 when its heavy concentration of mortgage bonds collapsed during the global financial crisis.

The Securities and Exchange Commission suit alleged that Schwab consistently played down the fund’s risks in ads and sales materials and violated federal law by putting too much cash in a single sector. It also misled investors about the magnitude of investor redemptions after the losses struck, according to the agency.

“All financial firms and professionals -- including large mutual fund providers -- must be vigilant in accurately describing the risks of the products they sell to the public, especially the widely held mutual funds that are the bread-and-butter investments of retail investors,” Robert Khuzami, SEC enforcement chief, said in a statement.


Schwab said that it regretted the customer losses, and it said company founder Charles Schwab was one of the fund’s largest investors.

Schwab settled the suit without admitting or denying liability. In a statement, the firm attributed the losses to “an unprecedented and unforeseeable credit crisis and market collapse.” Schwab also blamed the investment banks that created the mortgage bonds, and Wall Street rating firms.

“To provide future protection for individual investors from similar market crises, the company hopes that greater focus and attention will ultimately be given to the investment banks that created mortgage-backed securities and the ratings agencies that legitimized them with triple-A ratings, which have so far largely escaped scrutiny and accountability,” Schwab said.

About $110 million of the settlement money will be returned to aggrieved investors. Lawyers representing Schwab customers in a federal class action have alleged that 250,000 investors lost about $800 million in YieldPlus.

YieldPlus was an “ultra-short” bond fund that had notched strong returns in the years leading up to the financial crisis. Fund tracker Morningstar Inc. gave the fund a five-star performance rating, its highest, in late 2004.

But the fund’s heavy mortgage-related holdings got pounded during the financial crisis. YieldPlus lost 35.4% in 2008 and 10.5% in 2009, according to Morningstar. Investors stampeded out of the fund. Its assets have fallen from $13.5 billion to less than $150 million today.

-- Walter Hamilton