American Funds and NASD are preparing for the first clash between a regulator and a fund company over the issue of shelf space.
The Los Angeles fund company says it will fight charges that it violated an NASD rule by directing about $100 million of brokerage commissions to top sellers of its funds.
The complaint, filed Wednesday, alleged that American Fund Distributors Inc. violated the rule by directing commissions during three years to about 50 brokerage firms to reward them for past sales and to encourage future effort.
"This is not what happened," however, said Chuck Freadhoff, a vice president at American Funds. "This is flat-out not what happened."
There are "no facts to support these allegations," Mr. Freadhoff said Thursday. "American Funds Distributors, our sales arm, never committed formally or informally to direct a specific amount or percentage of portfolio transactions to any firms. There was absolutely no commitment."
Mr. Freadhoff said that, in the past, American Funds did take sales into consideration when two or more broker-dealers could each give best execution, "but we never conditioned our brokerage business on sales."
American Funds has requested a hearing before an NASD panel, Mr. Freadhoff said, and will defend itself. NASD, the securities industry's self-regulatory body, has investigated Edward D. Jones & Co. and Morgan Stanley regarding similar allegations, but each settled without a complaint having been filed.
Samuel Israel, NASD's chief enforcement counsel, said the American Funds case is the first in which the parties disagreed enough that NASD had to file a complaint.
"The facts of this case are very specific," Mr. Israel said. "American Funds calculated what target commissions were going to be based on past year's sales. They used 10 to 15 basis points and multiplied that times past sales and relayed target commissions to the broker-dealers."
The complaint alleges that American Funds Distributors calculated the "target commissions" from 2001 through 2003 that it intended to direct to each of the top-selling retailers of its 29 funds. The company allegedly told its parent, Capital Research and Management Co., which firms it had these arrangements with and the amounts targeted for each firm.
The NASD Anti-Reciprocal Rule, adopted in July 1973, is designed to prevent arrangements in which investment product providers buy shelf space by compensating brokerage firms for selling their products.
The rule is meant to ensure that the execution of portfolio transactions by brokers is guided by the principle of "best execution." It also tries to ensure that brokerage firms recommend the best products for their customers.
The cases involving Edward D. Jones and Morgan Stanley, by contrast with that of American Funds, penalized the two brokerage companies a total of $125 million for accepting directed commissions, not paying them.
Mr. Israel said NASD has several investigations under way that it expects to complete this winter or early spring, with announcements to follow.
"Obviously this issue is a major concern, which is why we have all of these investigations out there," he said. "We are interested, and the SEC is actively looking at the situation with a slightly different angle. … We are very much interested in seeing what is going on and putting an end to it."
American Funds also is being examined by California Attorney General Bill Lockyer as part of a probe of whether fund companies defrauded California investors by failing to disclose deals in which broker-dealers got paid to recommend particular funds.
Mr. Freadhoff said American Funds is cooperating fully but that no facts substantiate these allegations either. Neither case should affect the company's investment inflows, he said.
"We work strictly through financial advisers, and we believe that the financial advisers will be able to put this issue and our response into context for individual investors," he said.
