Securities Lawyers Blog
From January 2003 through the end of 2012, Morgan Stanley enticed over 30,000 customers to invest $797 million collectively into a managed-futures fund called Morgan Stanley Smith Barney Spectrum Technical L.P. The prospectus for Spectrum Technical fund characterized the fund as potentially profitable “when traditional markets are experiencing losses” and recommended the fund as a way to diversify beyond traditional stocks and bonds. The prospectus boasted that over a twenty-three year period, people who invested ten percent of their assets in managed futures outperformed portfolios comprised only of stocks and bonds.
The Spectrum Technical fund earned $490.3 million in trading gains and money-market interest income from 2003 through 2012. However, investors who remained in the fund during this period did not receive any of the returns because the commissions, expenses, and fees paid to fund managers and Morgan Stanley totaled $498.7 million. Thus, Spectrum Technical investors lost $8.3 million simply because the fees charged to the fund were greater than the gains.
Morgan Stanley advertised to clients that its managed futures funds performed well when the stock market was hit hard in 2000 and late 2007 and even gained 22.5 percent after fees in 2008. The firm further stated that it only sells these funds to qualified investors, and that it clearly defines the risks and fees for customers. Although these disclosures may provide insight as to the effect of fees on investor gains, information regarding fund managers’ conflicts of interest is often buried deep in the fund’s prospectus or regulatory filings.
The fees associated with funds in the $337 billion managed-futures market have traditionally been high. This creates an incentive for brokers to keep their clients invested in these funds. Brokers can receive annual commissions as high as four percent of the invested assets. Investors on the other hand pay up to nine percent annually. Although the losses suffered by Spectrum Technical investors highlight an unsettling problem, they are hardly the worst seen in the managed futures fund context. Investors in the Merrill Lynch Systematic Moment FuturesAccess LLC fund lost $135.3 million from 2009 to 2012 after fees were deducted.
Gerald Corcoran, the director of the Futures Industry Association and the CEO of the largest independent futures broker in the U.S. stated that losing money in managed-futures was unavoidable. Similarly, an accountant specializing in auditing hedge funds and managed futures funds, Keith Stafford, said that he and his colleagues regularly see how poorly managed futures perform and wonder why people invest in them at all.
Excessive fees are not the only issue in managed-futures market. The lack of transparency means that firms who market managed futures funds often do not fully understand the algorithms used to manage the funds. Additionally, certain funds permit managers to trade ahead of or opposite to the fund’s trades, thereby allowing the very people entrusted with managing investor assets to bet against their investors.
There is also limited regulation of managed futures funds. These investments do not fit into standard categories such as mutual funds or corporate filings that are overseen by the Securities and Exchange Commission. The funds that do report to the SEC generally do so because they fall under the rule mandating that partnerships with more than 500 investors and $10 million in assets under management file quarterly and annual reports. These regulatory filings do not clearly provide disclosures regarding the risks, fees, or conflicts that often arise with these managed futures funds.
BY: Julia Iodice