Lawyers for Fund Firms Seek to Have Lawsuits Tossed Out

Attorneys for mutual fund companies argued in federal court Thursday for the dismissal of numerous civil lawsuits relating to the alleged preferential treatment of wealthy clients at the expense of ordinary investors.

The case pits investors nationwide against 18 fund families, including Janus Capital Group Inc., Putnam Investments, Strong Capital Management Inc., Alliance Capital Holdings and other mutual fund companies. More than 200 legal complaints have been filed.

John Donovan of Ropes & Gray in Boston is representing Putnam Investments, MFS Investment Management and Scudder Mutual Funds. He contended that fund trustees had been active in investigating the market timing scandal that sparked the suits. Donovan also said that trustees had worked to assess damages and negotiate with management companies to make sure they had agreed to provide restitution to funds and shareholders.

“The bottom line is that when it comes to mutual funds, it’s up to trustees to be able to act for the benefit of stockholders, and we’ve taken the position that in this litigation and across the industry since the market timing scandal has erupted, trustees have been doing their job,” Donovan said.

But Mark Rifkind, who represents fund-derivative plaintiffs in the huge case, argued that trustees had been negligent in supervising the funds for years: “Despite the repeated warnings they had, we think they did not make any inquiries. They did nothing to satisfy their obligations to the funds to see that they were being managed in the manner best suited for the funds, as opposed to the financial interests of the advisors.”

A derivative case is a legal action on behalf of a particular fund. Attorneys also are arguing separate class actions for stockholders.

Plaintiffs contend that wealthy clients were allowed to book after-hours trades at prices already closed to most fund shareholders. The investors also claim fund mangers allowed quick in-and-out investing known as market timing. Although market timing is not illegal, most funds prohibit it because it racks up expenses that hurt other shareholders.

More than $2 billion already has been set aside to cover complaints through independent distribution consultants, which were appointed to allocate regulatory settlements reached among holders of the funds.

The lawyers argued on the first of two days of hearings before U.S. District Judges J. Frederick Motz, Catherine Blake and Andre Davis. The judges have divided the workload and are overseeing different groups of companies that are being sued.

The hearing brought a large turnout. Several observers sat on the floor in the largest courtroom at U.S. District Court in Baltimore. The judges frequently questioned lawyers during their arguments.

Motz asked Rifkind how money in the derivative lawsuits would be distributed, if the plaintiffs prevailed. Rifkind said the money would go to fund shareholders at the time of recovery.

The judges also focused on allegations that market advisors capitalized on the market timing scandal by taking excessive fees for phantom services.

Daniel Pollack, a lawyer representing Franklin Templeton Investments, argued that there was no necessary connection between market timing and the fees. But Stanley Grossman, an attorney representing the plaintiffs, said market advisors schemed to increase the fees.

It’s unclear when the judges will make a decision on whether to let the case proceed. Rifkind said he hoped a decision would be made within a month.