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Introduction

Jamie Dimon, CEO of Bank One Corporation, sipped his coffee in the boardroom of J.P.
Morgan Chase & Co. while he waited for illiam B. !arrison, Jr. to arri"e. #ltho$gh the
merger between their two banks wo$ldn%t be finali&ed for a few more da's, he felt at home in
the orld !ead($arters b$ilding at )*+ Park #"en$e in midtown Manhattan. ,t was good to
be back in -ew .ork. !e%d left the cit' and n$mber two position at Citibank after a falling
o$t with its CEO, /and' eil, in 0111. # 'ear later, Dimon became CEO of Bank One and
mo"ed to Chicago.
2he merger of Bank One and J.P. Morgan Chase wo$ld be finali&ed on J$l' 0, )++3, creating
the second largest financial instit$tion in the world. Mr. !arrison, CEO of J.P. Morgan Chase,
had called the meeting toda' with Mr. Dimon to disc$ss the final settlement of the charges
bro$ght b' the /ec$rities and E4change Commission 5/EC6 and -ew .ork /tate #ttorne'
7eneral Eliot /pit&er against Banc One ,n"estment #d"isors Corporation. #s he waited for
!arrison, Dimon went o"er the e"ents of the last ten months that had rocked the pristine
m$t$al f$nd ind$str'. 2he widespread probe into trading practices co$ld ha"e tarnished Bank
One%s rep$tation in the financial comm$nit'. Dimon was relie"ed that the sit$ation wo$ld be
resol"ed shortl'. !e was read' to brief !arrison on the final details of the settlement before it
became p$blic.
Background of the Investigation
,n /eptember )++8, the m$t$al f$nd scandal started when Bank One, Bank of #merica, Jan$s,
and /trong Capital came $nder in"estigation for improper and9or illegal trading practices.
2he' were named in a complaint bro$ght b' the /EC and Eliot /pit&er%s office against
Canar' Capital Partners. Bank One was the last of the fo$r companies to reach a settlement
with the /EC. :nder press$re to reach an agreement before the merger with J.P. Morgan
Chase took place, Bank One agreed to a ;1+ million settlement. #ltho$gh the compan'
neither admitted nor denied wrongdoing, it agreed to pa' ;<+ million in fines and restit$tion,
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and red$ce fees charged to in"estors in its m$t$al f$nds b' ;3+ million o"er the ne4t fi"e
'ears.
,n addition, Mark Beeson, former head of Bank One%s m$t$al f$nd di"ision, agreed to pa' a
;0++,+++ fine. !e was also banned from the ind$str' for two 'ears. Bank One%s ;1+ million
settlement was considerabl' less than the ;=*< million in fines and restit$tion that Bank of
#merica9>leet Boston paid for its role in the scandal. ?ike Bank One, Bank of #merica
reached an agreement with the /EC @$st before its merger with >leet Boston took place. Bank
of #merica paid a higher price beca$se of a broader case in which one of its brokers faced
criminal charges. 2he scandal spread far be'ond the fo$r companies named in the complaint
against Canar' Capital. ?ess than a 'ear after the original charges were bro$ght, do&ens of
m$t$al f$nd companies had paid o"er ;).< billion in fines, restit$tion, and fee c$ts 5Brewster,
)++36.
?ong known in the financial comm$nit' for his integrit', Dimon addressed the allegations of
improper trading as soon as the' became p$blic in /eptember )++8. A$ickl', he de"eloped a
strateg' that in"ol"ed cooperation, transparenc', and comm$nication to lead the bank o$t of
the crisis. !e foc$sed on Bdoing the right thing,C a "al$e he consistentl' emphasi&ed at the
bank. ,n a message to emplo'ees, Dimon 5/eptember 1, )++86 wrote, B#t Bank One we talk a
lot abo$t doing the right thing, and , promise we will do the right thing in this sit$ation.C ,n
the same message, Dimon o$tlined the steps that Bank One wo$ld take to respond to the
m$t$al f$nd scandal. Echoing the theme of doing the right thing, Dimon wrote, B-othing is
more important to $s than maintaining the highest ethical standards.C !e also emphasi&ed that
the bank took its responsibilit' to shareholders "er' serio$sl'. !e mentioned that the bank
shared the interest of the -ew .ork #ttorne' 7eneral and reg$lators to safeg$ard the integrit'
of the m$t$al f$nd ind$str'. Dimon%s message to emplo'ees established the ma@or
components of his strateg' that were followed thro$gho$t the crisisD
Do the right thing
Maintain the highest ethical standards
Take the banks responsibility to mutual fund shareholders seriously
Cooperate fully with the New ork !ttorney "eneral and regulators
#eview and evaluate policies and procedures $uickly and thoroughly
Take disciplinary action as needed against employees
Make restitution to shareholders
Communicate and promote transparency
Dimon promised a swift and thoro$gh gathering of the facts. ,n the interest of transparenc'
and comm$nication, Dimon pledged to comm$nicate with bank emplo'ees and m$t$al f$nd
shareholders as appropriate, and enco$raged bank emplo'ees to share his letter with an'
Bank One c$stomers who were interested.
!owe"er, Dimon re($ested emplo'ees to withhold comment or spec$lation $ntil the
in"estigation $nco"ered the facts. !e also asked for their patience, since it wo$ld clearl' take
some time before the in"estigation was completed. 2hro$gho$t the crisis, the bank adhered to
the basic strateg' o$tlined in that letter to emplo'ees.
!ow well did his strateg' pa' offE Did his leadership, commitment to doing the right thing,
transparent action, and comm$nication help Bank One to regain c$stomer tr$st and mo"e
be'ond the m$t$al f$nd scandalE
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!bout Bank %ne and &'(' Morgan Chase ) Co'
Bank One Corporation%s wholl' owned indirect s$bsidiar', Banc One ,n"estment #d"isors
5BO,#6, came $nder in"estigation in the m$t$al f$nd probe. BO,# offered in"estment
management ser"ices, incl$ding One 7ro$p M$t$al >$nds, to indi"id$als and companies.
One 7ro$p M$t$al >$nds manage o"er ;0++ billion in assets. BO,#, whose head($arters
were in Col$mb$s, O!, registered with the /EC as an in"estment ad"iser on -o"ember )),
0110.
BO,# was a wholl' owned s$bsidiar' of Bank One, -ational #ssociation 5Ohio6, which in
t$rn was a wholl' owned s$bsidiar' of Bank One Corporation. Before its merger with J.P.
Morgan Chase & Co. on J$l' 0, )++3, Bank One was the si4th largest bank in the :nited
/tates, with assets of aro$nd ;8)+ billion. Bank One ser"ed abo$t )+,+++ middle market
clients and appro4imatel' se"en million retail ho$seholds. 2he bank iss$ed o"er <0 million
credit cards and managed in"estment assets of abo$t ;0FF billion.
On J$l' 0, )++3, Bank One merged with J.P. Morgan Chase & Co. 2he combined financial
ser"ices firm had assets of abo$t ;0.0) trillion. Operating in o"er <+ co$ntries, the compan'
pro"ided financial ser"ices for cons$mers and b$sinesses, in"estment banking, asset and
wealth management, financial transaction processing, and pri"ate e($it'. ith corporate
head($arters in -ew .ork, J.P. Morgan Chase wo$ld maintain head($arters for :./. retail
financial ser"ices and commercial banking in Chicago 5all /treet Jo$rnal Online, )++36.
*ituation +eading ,p to the *candal
On /eptember 8, )++8, -ew .ork /tate #ttorne' 7eneral Eliot ?. /pit&er and the /EC
bro$ght charges against Canar' Capital Partners, a hedge f$nd, for illegal afterGho$rs trading
and improper market timing.
,n this complaint, Bank One and three other m$t$al f$nd firms were named for making
special deals with Canar' to cond$ct the improper m$t$al f$nd trades. Probes into m$t$al
f$nd trading foc$sed on late trading and market timing. ?ate trading, an illegal practice,
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occ$rs when m$t$al f$nd orders that are placed after 3 p.m. are processed at the same da'
price rather than the price set on the following da'. ?aw re($ires that late trades be placed at
the following da'%s price. #ltho$gh market timing, also known as timing, is not illegal, man'
m$t$al f$nd prospect$ses disco$rage in"estors from doing it. 2iming in"ol"es the rapid
b$'ing and selling of m$t$al f$nd shares b' shortGterm in"estors who tr' to take ad"antage of
inefficiencies in the pricing of m$t$al f$nds. 2imers hope to profit from f$nd share prices that
lag behind the "al$e of the $nderl'ing sec$rities.
/hare prices of m$t$al f$nds are set at 3 p.m. Eastern /tandard 2ime 5E/26 based on the
"al$es of their portfolio holdings. #n' trades placed after 3 p.m. E/2 are s$pposed to be
charged at the ne4t da'%s prices to keep in"estors from taking ad"antage of news that happens
after the close of trading 5Care', )++86.
?ike man' other f$nds, One 7ro$p M$t$al >$nds had policies that disco$raged market
timing, beca$se it skimmed profits from the acco$nts of other shareholders. B' gi"ing special
permission to certain large in"estors to market time, BO,# earned higher management fees
from those in"estors% acco$nts 5?a$ricella, )++36. Market timing co$ld h$rt longGterm
in"estors b' dri"ing $p costs and red$cing their profits 5Johnson, )++86.
2he rapid inGandGo$t trading can ca$se an increase in transaction costs since the portfolio
manager ma' ha"e to b$' and sell sec$rities in response to the hedge f$nd%s trades. 2hese
costs are normall' borne b' the m$t$al f$nd. ,n addition, the dil$tion effect occ$rs when the
f$nd has to pa' for the timers% profits o$t of its own finite pool of assets 5Care', )++86.
2he profits $s$all' are paid from the f$nd%s cash holdings or a sale of sec$rities to co"er the
pa'ment. ,n either case, shareholders are h$rt beca$se the total amo$nt of assets a"ailable in
the m$t$al f$nd is diminished. /ome blame the practice of market timing on stale pricing.
/ince m$t$al f$nd prices are onl' ad@$sted once a da', the' fre($entl' go o$t of date, hence
stale. 2he f$nd%s $nderl'ing sec$rities change "al$e thro$gho$t the da', and ma' be spread
across different time &ones.
?arge in"estors can $se sophisticated technolog' to take ad"antage of the differences
between the prices of the f$nd%s shares and the f$nd%s assets 5#ri&ona Hep$blic, )++86. 2he
effects of Canar'%s market timing apparentl' took a toll on Bank One m$t$al f$nd managers.
#ccording to the Canar' settlement doc$ment, the managers complained to One 7ro$p
President Mark Beeson abo$t the impact of Canar'%s timing acti"it' on their f$nds 5#tlas,
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)++86. ,n #pril )++8, Canar' stopped trading in Bank One%s m$t$al f$nds when Beeson no
longer felt comfortable wai"ing penalties for their fre($ent trading.
%ne "roup #estrictions against Timing
Mark #. Beeson held the positions of President and CEO of One 7ro$p from Jan$ar' )+++
$ntil his resignation in October )++8. ,n 0113 Beeson began working at BO,# as the chief
financial officer. #fter two 'ears he was promoted to chief administrati"e officer.
>rom J$ne )++) $ntil Ma' )++8, Mark #. Beeson and One 7ro$p allowed Canar' Capital to
make 8++ b$'GandGsell transactions in se"eral domestic and international stock f$nds. Canar'
earned a profit of aro$nd ;<.) million from this market timing. ,n addition, Canar' was not
charged aro$nd ;3 million in penalties that it sho$ld ha"e paid for market timing 5/EC Order,
)++36. Prospect$ses in the One 7ro$p p$t restrictions on e4cessi"e e4change acti"it' in all
the One 7ro$p m$t$al f$nds. E4change of an' in"estment in the f$nds was limited to Btwo
s$bstanti"e e4change redemptions within 8+ da's of each other.C ,n -o"ember )++0, One
7ro$p set a )I earl' redemption fee for an' international f$nd redemption made within 1+
da's of p$rchase. ,t also reser"ed the right to ref$se an' e4change re($est that wo$ld
negati"el' affect shareholders. ,n fact, o"er 8++ e4change pri"ilege "iolations were identified
b' Beeson and BO,# between Jan$ar' )++) and /eptember )++8 5/EC Order, )++36. ?ate in
)++0, Edward /tern, head of Canar' Capital, made a proposal thro$gh /ec$rit' 2r$st
Corporation to BO,#.
!e offered to borrow ;)< million from Bank One and match it with ;)< million of his own
f$nds if he were allowed to trade in certain m$t$al f$nds. Beeson ref$sed the proposal se"eral
times. B$t after talking it o"er with /ec$rit' 2r$st Corporation and Bank One emplo'ees,
Beeson decided to consider letting /tern trade in certain Bank One f$nds in March )++).
#ltho$gh Bank One%s chief operating officer ad"ised against it, Beeson allowed Edward
/tern to trade in se"eral domestic and two international f$nds for $p to half of one percent of
the f$nd%s "al$e. >or trading p$rposes, Bank One loaned ;0< million to /tern, who matched it
with his own ;0< million. /tern agreed that the entire amo$nt wo$ld sta' within Bank One as
sec$rit' for the loan.
BO,# did not charge /tern the )I redemption fee normall' re($ired for an' trade made less
than 1+ da's after an initial p$rchase. 2his wo$ld ha"e amo$nted to aro$nd ;3.) million in
redemption fees. ,n Jan$ar' )++8, /tern recei"ed a second Bank One loan of ;0< million,
which he again matched with ;0< million of his own f$nds.
!e also $sed this mone' to trade in One 7ro$p f$nds. Between J$ne )++) and #pril )++8,
/tern earned a net profit of abo$t ;<.) million from appro4imatel' 8++ inGando$t trades.
>rom this arrangement, Bank One gained the interest on the loans and BO,# increased
m$t$al f$nd sales and associated fees. #ccording to the /EC settlement doc$ment 5)++36, the
agreements with Canar' Capital were ne"er disc$ssed with the One 7ro$p Board of 2r$stees.
#nother possible reason wh' Beeson agreed to the arrangement was the hope of doing f$t$re
b$siness with /tern. On se"eral occasions, he disc$ssed /tern%s possible in"estment in a Bank
One hedge f$nd, b$t that in"estment ne"er took place 5/EC Order, )++36.
Other c$stomers besides Canar' Capital recei"ed special treatment from BO,#. #pparentl'
witho$t Beeson%s knowledge, a 2e4as hedge f$nd was e4c$sed from pa'ing the )I
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redemption fee in March )++8. #ltho$gh the 2e4as Compan' in"ested ;38 million in two
international f$nds and redeemed the in"estment three da's later, it did not ha"e to pa' abo$t
;F3+,+++ in redemption fees. BO,# did not reimb$rse the two international f$nds for the fees
that it didn%t collect. #s standard proced$re, the portfolio holdings of One 7ro$p m$t$al
f$nds were considered confidential information that was p$blished onl' as re($ired b' law.
-onetheless, /tern asked for and recei"ed monthl' $pdates on the eight f$nds in which he
had in"estments from J$l' )++) $ntil #pril )++8 when the relationship ended. Beeson
pro"ided him with this information witho$t an' confidentialit' agreement. 2he in"estigation
also fo$nd that BO,# pro"ided One 7ro$p%s portfolio holdings to other special clients o"er a
period of ten 'ears. 2his information was gi"en o$t as often as once a week to se"en clients,
eight prospecti"e clients, and se"eral do&en cons$ltants from pension f$nds or f$nd ad"isers.
2he special trading arrangements for /tern and others began to $nra"el in J$l' )++8. -oreen
!arrington, a former !art& in"estments officer, blew the whistle on improper trading
practices at Canar' Capital. /he ($oted Eddie /tern as sa'ing, B,f , e"er get in tro$ble,
the'%re not going to want me, the'%re going to want the m$t$al f$ndsC 5Jickers, )++36. -ew
.ork #ttorne' 7eneral Eliot /pit&er s$bpoenaed /tern and named him in a complaint for
ha"ing engaged in Bfra$d$lentC schemes of late trading and market timing of m$t$al f$nds.
2wo months later, Canar' Capital settled with the /EC and
#ttorne' 7eneral%s office for ;3+ million. Canar' agreed to pa' ;8+ million in restit$tion for
profits gained b' improper trading, as well as a ;0+ million penalt'. Canar' neither admitted
nor denied wrongdoing.
The Mutual -und Industry
/hock wa"es hit all /treet when /pit&er%s in"estigations began into trading ab$ses in the
m$t$al f$nd ind$str'. >ew o$tside the financial comm$nit' e4pected to see a scandal occ$r
there. #s the probe contin$ed, it $nco"ered improper trading practices at do&ens of m$t$al
f$nd companies. -ew .ork #ttorne' 7eneral Eliot /pit&er called the ind$str' Ba cesspoolC
5aggoner, D$gas & >ogart', )++86.
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!alf of the FF largest m$t$al f$nd gro$ps had permitted fa"ored in"estors to b$' m$t$al f$nd
shares at stale prices, skimming profits from longGterm shareholders 5A$inn, )++86. Pricing
had been an iss$e in the m$t$al f$nd ind$str' for a long time. ,n the 018+s, m$t$al f$nds
often had two pricesD a p$blic price, as well as a more $pGtoGdate price that a few big
in"estors co$ld access @$st before the price became p$blic. 2he pri"ileged in"estors who
knew where m$t$al f$nd prices were going co$ld make fast profits. ,n response, Congress
passed the ,n"estment Compan' #ct of 013+ in an attempt to make m$t$al f$nd pricing
policies fairer. #mong other r$les, it re($ired f$nds to ha"e @$st one p$blic price.
#ccording to Mr. /pit&er, m$t$al f$nd companies made o"er ;<+ billion in management fees
in )++). !e was the first to s$ggest that the widespread practice of preferential trading for big
in"estors co$ld be channeling billions of dollars awa' from e"er'da' longGterm in"estors in
m$t$al f$nds. Mr. /pit&er commented on wa's that companies co$ld make amends. B,f
the'%re e4pecting to get settlements 5with reg$lators6, the'%re going to ha"e to gi"e m$ch
more back than @$st 5in"estors%6 losses.
2he'%re going to be pa'ing stiff fines and gi"ing back their management fees. 2he' "iolated
their tr$st with the #merican in"estorC 57ordon, )++86. /pit&er also e4pressed dissatisfaction
with the /EC%s o"ersight of the ind$str'. Pa$l Ho'e headed the m$t$al f$nd di"ision of the
/EC. B!eads sho$ld roll at the /EC. 2here is a whole di"ision at the /EC that is s$pposed to
be looking at m$t$al f$nds. here ha"e the' beenEC
#ccording to /EC Chairman illiam Donaldson, the /EC was considering new c$rbs on
f$nd trading 57ordon, )++86. 2he ($estion remained how the scandal wo$ld affect the m$t$al
f$nd ind$str'. #rth$r ?e"itt, former /EC chair, said, B2his seems to be the most egregio$s
"iolation of the p$blic tr$st of an' of the e"ents of recent 'ears. ,n"estors ma' reali&e the'
can%t tr$st the bond market or the' can%t tr$st a stock broker or anal'sts, b$t m$t$al f$nds
ha"e been ha"ens of sec$rit' and integrit'C 5?a$ricella, 0+9)+9+86. !ow man' of the 1<
million c$stomers wo$ld cash in their sharesE
,n"estors apparentl' didn%t lose faith in all m$t$al f$nds. John C. Bogle, fo$nder of the
Jang$ard 7ro$p, belie"ed that mone' was flowing o$t of companies that had lost in"estor
confidence and into companies that had kept their good rep$tations for being well managed
or holding down costs and fees 5?a$ricella, 0+9)+9+86.
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