Fraud spectrum

4 February 2010

Fraud scandals such as Madoff in the US make everyone nervous about handing their money over for investment but the regulated fund world in the UK does not have such issues and more should be made of that fact.

In a world where there are daily instances of email scams, identity fraud and people making off with money from private bank accounts, consumers are nervous about where their money goes. Yet money cannot be “stolen” froma regulated Ucits (or non-Ucits) fund. Mismanaged and/or missold, yes, damaged by market fluctuations, yes, but someone cannot simply walk away with an investor’s money.

Gemini Investment Management managing director Stuart Alexander says: “Incidents of fraud in fund management are extremely low, lower, in fact, than in most other industries. It is almost impossible for fund management companies to commit fraud within the funds as the assets are not held by the person perpetuating the fraud. Instead, they are held by independent trustees and custodians.”

One major case that stands out to those who have been in the industry for some time happened in the late 1990s with Morgan Grenfell and fund manager Peter Young.

Young ran three European funds, within which he invested in a number of highly speculative stocks. He circumvented fund rules to get higher than normal exposure in these stocks.

In this case, there were no obvious signals to investors that something was happening to their money, such as a severe or unexpected drop-off in performance.

It was Morgan Grenfell that discovered irregularities in the fund during its auditing process and quickly moved to take action by suspending trading. It replaced the investments with cash provided by its parent company so investors would not lose out. It is estimated it cost the company around £400m, including compensation. Even though investors did not lose out, regulations and risk controls were tightened up to prevent such action taking place again.

In the more than 10 years since that event, it has not. That is not to say that there will not still be fraud occurring within funds. In today’s world, that is unrealistic but a few cases within a decade in a trillion-pound industry represent an extremely low degree of occurrence.

Independent consultant and former adviser Graham Hooper says: “It has happened, although not often. The good news is that it has been put right in every instance and quickly. The system works from an investor’s prospective.”

Artemis communications director Ross Leckie says fraud is something that happens to this industry more often than within it. He says the FSA may get a bad name for many things but not enough is done to highlight the positive influence it does have in areas of investor protection.

As reported in Money Marketing last week, figures from the National Fraud Authority show that fraud costs the financial services industry £3.8bn a year. This is mostly attributed to the insurance and mortgage industries plus plastic cards, online banking and cheques. Tax fraud and those involving pension benefits are also highlighted by the NFA. Funds are noticeably absent.

But while fraud is absent within the industry, it can occur around it and consumers need to be made more aware of this.

Premier managing director, sales and marketing Simon Wheldon says consumers need to be careful that the firm or fund they are invested with is real. For instance, not long ago, Premier’s website was copied and a few investors transferred money to the non-existent replica company in the belief they were investing in Premier’s funds. The firm spent a lot of time and money to shut down the fake site and encourages other companies to be diligent about the possibility of such an occurrence.

’Fraud has happened although not often. The good news is that it has been put right in every instance - and quickly. The system works from an investor’s perspective’

Another area that providers note can be a concern involves the information that can be obtained. If an investors’ account details are scammed and knowledge of where their money is held is ascertained, then fraudsters can contact the provider to redeem the fund andmove the money into their own accounts.

Internet and email scams have become commonplace and the danger and frequency of these is evident, with even the Government vulnerable to such actions, with a fraudulent email claiming to come from HM Revenue & Customs being warned about just last month.

However, within the fund management industry, money is spent to try to mitigate these scams and strengthen security. With investment business increasingly conducted online and more anticipated to occur after the RDR, providers are being extra diligent about their security and monitoring.

Financial companies can be accused of over-egging a product or even promising more than it delivers but in its favour are the compensations, regulations and efforts devoted to protecting client money.

There are scandals that result from mismanagement and misselling and there have been, and may yet still be, cases where fraud is alleged in the fund world but it is not a normal occurrence.

As an industry, a lot of risk warnings are made about the possibility of losing money due to stockmarket movements and far less is written about investor protection. It is something that we all should emphasise more.

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