Broker is fined for pushing its own funds

Pity the poor Morgan Stanley client—his account contains mediocre mutual funds because his broker got concert tickets and dinner vouchers for selling them. The National Association of Securities Dealers has fined Morgan Stanley $2 million for handing illegal noncash sales incentives to its brokers to push the company’s “house” mutual funds. Big brokerages offer a wide array of mutual funds owned by themselves and by other mutual fund companies. They have long been accused of pushing their own mutual funds over others because sales of those funds are more lucrative.

Morgan Stanley’s practices were particularly egregious, the NASD charged in its complaint. Brokers who pushed Morgan Stanley and Van Kampen funds (Van Kampen is a subsidiary) got a wide range of noncash rewards. “These prizes included all-expenses paid vacations and weekend getaways, tickets for concert, theater and sporting events, spa packages, shopping sprees, sports training events and outings, dinners, gift certificates, travel and entertainment allowances, business development rewards, and attendance at conferences held at resorts,” the NASD said in its written complaint. The NASD said the company held 29 sales contests at the national and branch level—many of them coinciding with the introduction of new company mutual funds—with prizes that included tickets to a Britney Spears concert. It also charged that the firm’s compensation system for managers included incentives to sell proprietary mutual funds.

The regulatory agency also said the company tried to hide the contests from clients in order to avoid “public-relations ramifications.” Employees were told not to discuss details of the contests in writing. Despite the settlement with the NASD, the firm still faces investigations by the Securities and Exchange Commission and by Massachusetts.

Sticking with house brands only may not have been the best strategy for all clients. For instance, of Morgan Stanley’s 25 largest mutual funds, seven received poor risk and return ratings from Morningstar Inc. Among Van Kampen’s largest 25 funds, eight received low ratings. Investors who were directed into those funds missed the opportunity to invest in similar funds offered by other mutual fund companies. Those funds may have had better performance, lower risk, and/or lower management expenses.