Arthur Levitt, during his tenure at the SEC, experienced many cases where the non-indexed mutual fund manager bought shares for their own accounts before the fund bought the shares. The funds purchases drove up the price of the stocks and the fund managers made a killing on the deal. This is called front running, and is illegal under securities laws.

Mr. Levitt also witnessed instances where the funds would buy huge blocks to run up the stock price at the end of the financial reporting period. This made the fund look like it had a high profit when it did not. This makes the funds performance look better than it really is.

The SEC brought enforcement cases against some of the largest and most respected companies during Mr. Levitts tenure as SEC chairman. A mutual fund run by Van Kampen Investment Corp. for example, claimed in public advertisements that it had returned 62 percent in 1996. This information caused the fund-rating service Lipper Inc to report the mutual fund as the top performer in its class, a full 20% ahead of the second-best performing fund in the category.

But investors werent told that the excellent returns of the Van Kampen fund were on tiny assets of $200,000.00 to $380,000.00. This is because it was really a so-called incubator fund operating on seed money until its portfolio manager could establish a track record for marketing purposes. Nor were investors told that more than half the returns came from investments in thirty-one hot IPOs. An IPO is an Initial Public Offering that occurs when a firm first offers its stock across a public exchange. Since the stock is new nobody knows how it will perform except insiders.

The fund only had to buy between 100 and 400 shares of each IPO to achieve a huge amplification of the returns. The 62% return unrealistically raised investor expectations and was unsustainable. When senior managers of Van Kampen decided to sell the fund to the public some 15,000 people invested $100,000,000.00 within six weeks. Van Kampen settled SEC charges that it had misled investors. What a bunch of con artists. The modern day mutual fund is like a remake of the movie The Sting where Paul Newmans character has been replaced by the fund manager!

A fund run by Dreyfus Corp., owned by Mellon Financial Corp., paid almost $3 million to settle, without admitting or denying guilt, similar charges of fraudulently luring investors with unsustainable returns. Its manager claimed returns of more than 80%, but failed to tell investors that the fund had received a disproportionate number of IPO shares that should have been allocated to other Dreyfus funds.

The fund industry should work less on image creation and more on making sure that it has done everything it can to safeguard investors money and boost returns. The mutual fund industry has become a financial powerhouse over the past twenty years and only cares about how much money it can suck out of the public just as it was at the turn of the last century when they were called investment pools. Funds are glitzy marketing operations instead of stewards of other peoples money. Dont put your trust in them unless they are fully indexed like the Vanguard 500 (VFINX).